CA Inter RTP Complied Nov23-May 20

PAPER – 6: AUDITING AND ASSURANCE
PART – I : ACADEMIC UPDATE

Chapter 9 (Printed Copy)
At Page 10 - Topic “Shares issued at a discount” is revised and being given hereunder. Students
are advised to study this topic from here and not from printed copy of the study material.
Shares issued at a discount
According to Section 53 of the Companies Act, 2013,
(1) a company shall not issue shares at a discount, except in the case of an issue of sweat
equity shares given under Section 54 of the Companies Act, 2013.
(2) any share issued by a company at a discounted price shall be void.
(2A) Notwithstanding anything contained in sub-sections (1) and (2), a company may issue
shares at a discount to its creditors when its debt is converted into shares in pursuance of
any statutory resolution plan or debt restructuring scheme in accordance with any
guidelines or directions or regulations specified by the Reserve Bank of India under the
Reserve Bank of India Act, 1934 or the Banking (Regulation) Act, 1949.
(3) Where any company fails to comply with the provisions of this section, such company and
every officer who is in default shall be liable to a penalty which may extend to an amount
equal to the amount raised through the issue of shares at a discount or five lakh rupees,
whichever is less, and the company shall also be liable to refund all monies received with
interest at the rate of twelve per cent. per annum from the date of issue of such shares to
the persons to whom such shares have been issued.
The auditor needs to check
(i) the movement in share capital during the year and wherever there is any issue,
(ii) he should verify that the Company has not issued any of its shares at a discount by reading
the minutes of meeting of its directors and shareholders authorizing issue of share capital
and the issue price.
(iii) Further, auditor should also verify that whether the company has issued shares at a
discount to its creditors when its debt is converted into shares in pursuance of any statutory
resolution plan or debt restructuring scheme in accordance with any guidelines or
directions or regulations specified by the Reserve Bank of India under the Reserve Bank
of India Act, 1934 or the Banking (Regulation) Act, 1949.
This topic has also been revised at page no. 10 of chapter 9 and students can refer at the link
given below:
https://resource.cdn.icai.org/66605bos53774-cp9.pdf
© The Institute of Chartered Accountants of India

2 INTERMEDIATE EXAMINATION: NOVEMBER, 2023
Chapter 10 – Company Audit

On Page number 10.36, point (j) to be read as under:
(j) such other matters as may be prescribed Rule 11 of the Companies (Audit and Auditors)
Rules, 2014 prescribes the other matters to be included in auditor’s report. The auditor’s
report shall also include their views and comments on the following matters, namely: -
(i) whether the company has disclosed the impact, if any, of pending litigations on its
financial position in its financial statement;
(ii) whether the company has made provision, as required under any law or accounting
standards, for material foreseeable losses, if any, on long term contracts including
derivative contracts;
(iii) whether there has been any delay in transferring amounts, required to be transferred,
to the Investor Education and Protection Fund by the company.
[(iv) (1) Whether the management has represented that, to the best of it’s knowledge
and belief, other than as disclosed in the notes to the accounts, no funds have
been advanced or loaned or invested (either from borrowed funds or share
premium or any other sources or kind of funds) by the company to or in any other
person(s) or entity(ies), including foreign entities (“Intermediaries”), with the
understanding, whether recorded in writing or otherwise, that the Intermediary
shall, whether, directly or indirectly lend or invest in other persons or entities
identified in any manner whatsoever by or on behalf of the company (“Ultimate
Beneficiaries”) or provide any guarantee, security or the like on behalf of the
Ultimate Beneficiaries;
(2) Whether the management has represented, that, to the best of it’s knowledge
been received by the company from any person(s) or entity(ies), including
foreign entities (“Funding Parties”), with the understanding, whether recorded in
writing or otherwise, that the company shall, whether, directly or indirectly, lend
or invest in other persons or entities identified in any manner whatsoever by or
on behalf of the Funding Party (“Ultimate Beneficiaries”) or provide any
guarantee, security or the like on behalf of the Ultimate Beneficiaries; and
(3) Based on such audit procedures that the auditor has considered reasonable and
appropriate in the circumstances, nothing has come to their notice that has
caused them to believe that the representations under sub-clause (1) and (2)
contain any material misstatement.
(v) Whether the dividend declared or paid during the year by the company is in
compliance with section 123 of the Companies Act, 2013.
(vi) Whether the company has used such accounting software for maintaining its books
of account which has a feature of recording audit trail (edit log) facility and the same

PAPER – 6: AUDITING AND ASSURANCE 3
has been operated throughout the year for all transactions recorded in the software
and the audit trail feature has not been tampered with and the audit trail has been
preserved by the company as per the statutory requirements for record retention.
Chapter 10 (Printed Copy) At Page 10.61 - Topic “Punishment for non-compliance” is
revised and being given hereunder. Students are advised to study this topic from here and not
from printed copy of the study material.
PUNISHMENT FOR NON-COMPLIANCE
Section 147 of the Companies Act, 2013 prescribes following punishments for
contravention:
(1) If any of the provisions of sections 139 to 146 (both inclusive) is contravened, the company
shall be punishable with fine which shall not be less than twenty-five thousand rupees, but
which may extend to five lakh rupees and every officer of the company who is in default
shall be punishable with fine which shall not be less than ten thousand rupees, but which
may extend to one lakh rupees.
(2) If an auditor of a company contravenes any of the provisions of section 139, section 144
or section 145, the auditor shall be punishable with fine which shall not be less than twenty-
five thousand rupees, but which may extend to five lakh rupees or four times the
remuneration of the auditor, whichever is less.
It may be noted that if an auditor has contravened such provisions knowingly or willfully
with the intention to deceive the company or its shareholders or creditors or tax authorities,
he shall be punishable with imprisonment for a term which may extend to one year and
with fine which shall not be less than fifty thousand rupees but which may extend to twenty-
five lakh rupees or eight times the remuneration of the auditor, whichever is less.
(3) Where an auditor has been convicted under sub-section (2), he shall be liable to:
(i) refund the remuneration received by him to the company.
(ii) and pay for damages to the company statutory bodies or authorities or to members
or the creditors of the Company for loss arising out of incorrect or misleading
statements of particulars made in his audit report.
(4) The Central Government shall, by notification, specify any statutory body or authority of an
officer for ensuring prompt payment of damages to the company or the persons under
clause (ii) of sub-section (3) and such body, authority or officer shall after payment of
damages such company or persons file a report with the Central Government in respect of
making such damages in such manner as may be specified in the said notification.
(5) Where, in case of audit of a company being conducted by an audit firm, it is proved that
the partner or partners of the audit firm has or have acted in a fraudulent manner or abetted
or colluded in an fraud by, or in relation to or by, the company or its directors or officers,
the liability, whether civil criminal as provided in this Act or in any other law for the time
being in force, for such act shall be the partner or partners concerned of the audit firm and

of the firm jointly and severally. However, in case of criminal liability of an audit firm, in
respect of liability other than fine, the concerned partner or partners, who acted in a
fraudulent manner or abetted or, as the case may be, colluded in any fraud shall only be
liable.
This topic has also been revised at page no. 10.61 of chapter 10 and students can refer at the
link given below:
Case study given at page no. 10.15 in Chapter 10 of Module 2 has been revised and is
given hereunder:
CASE STUDY
Facts of the Case: CA. Donald was appointed as the auditor of PS Ltd. at the remuneration of
` 30,000. However, after 4 months of continuing his services, he could not continue to hold his
office of the auditor as his wife got a government job at a distant place and he needs to shift
along with her to the new place. Thus, he resigned from the company and did not perform his
responsibilities relating to filing of statement to the company and the registrar indicating the
reasons and other facts as may be relevant with regard to his resignation.
How much fine may he be punishable with under section 140(3) for non -compliance of section
140(2) of the Companies Act, 2013?
Explanation: For non-compliance of sub-section (2) of section 140 of the Companies Act, 2013,
the auditor shall be punishable with fine, which shall not be less than fifty thousand rupees or
the remuneration of the auditor, whichever is less but which may extend to two lakh rupees,
under section 140(3) of the said Act.
Conclusion: Thus, the fine under section 140(3) of the Companies Act, 2013 shall not be less
than ` 30,000 but which may extend to ` 2,00,000.
The revision has also been made at Page no. 10.15 in Chapter 10 of the Study Material at the
link given below:
Note: Students are also advised to refer RTP of Paper-2: Corporate and Other Laws for
academic updates relating to Company Law and Other Laws.

PART – II: QUESTIONS AND ANSWERS
PART – II A: Multiple Choice Questions based on Case Scenarios

Case Scenario - 1
Kartik, a CA student undergoing his articled training, is part of an engagement team conducting
statutory audit of MSE Auto Private Limited, a company engaged in manufacturing of automobile
spare parts. The company has its manufacturing facilities located in Pimpri - Chinchwad
industrial belt near Pune. It is a profit making company and one of the most sought after by
banks in the area due to its good track record. The following is extract of financial information
taken from its pre-audit financial statements for year 2022-23. Figures have been rounded off
in ` 000’s.
Particulars Year 2022-23 Year 2021-22
Share capital 2500.00 2500.00
Long term borrowings 0.00 15000.00
Short term borrowings 55000.00 15000.00
Inventories 35000.00 27000.00
Trade receivables 60000.00 25000.00
Revenue from Operations 300000.00 100000.00
Profit before tax 60000.00 18000.00
While going through schedule of long term borrowings and books of accounts, he finds that
reduction of long term borrowings of the company is on account of full payment of a term loan
in month of April 2022 taken from a bank in past. However, he finds that charge in respect of
above term loan in favour of bank is still subsisting on MCA portal beyond statutory period due
to non-registration of charge satisfaction.
He had read about assertions pertaining to balance sheet and income statement. However, he
was not sure about nomenclatures assigned to assertions pertaining to balance sheet and
income statement.
The team had also attended physical inventory count of the company as at year end in
accordance with SA 501.
Besides, company’s trade receivables have increased from ` 25000 in year 2021-22 to ` 60000
in year 2022-23 (both figs in ‘000s). His understanding is that increase in company’s trade
receivables as compared to last year signifies longer time taken by company’s customers to
make their payments.
Considering substantial rise in revenue from operations of the company in the year under audit,
team wants to ensure that revenues of company are not overstated.

Based on above, answer the following questions: -

1.1 Keeping in view description regarding full payment of term loan in April 22 taken from a
bank in past and non-registration of satisfaction of charge, which of following statements
is correct?
(a) The above fact may be disclosed by the company’s management in its financial
statements at its discretion along with reasons as such disclosure would bring
transparency.
(b) The above fact along with reasons is required to be disclosed by the company in its
financial statements in accordance with requirements of Standards on Auditing.
(c) The above fact along with reasons is required to be disclosed by the company in its
financial statements in accordance with requirements of Schedule III of Companies
Act, 2013.
(d) The above fact is not required to be disclosed as term loan has already been repaid
in full and there are no outstanding long term borrowings.
1.2 The company’s short-term borrowings have increased during the year 2022-23 as
compared to last year. One of following assertions is not relevant to verification of short-
term borrowings. Which odd one you would suggest to Kartik in this regard?
(a) Existence
(b) Occurrence
(c) Completeness
(d) Valuation
1.3 As regards team’s attendance at physical inventory count process of company’s
inventories in accordance with SA 501 is concerned, which of following is not a relevant
audit procedure?
(a) Inspection of inventories
(b) Checking appropriateness of method employed for valuation of inventories
(c) Evaluating management’s instructions for recording results of physical inventory
count
(d) Performing test counts
1.4 The company’s trade receivables have increased during year 2022-23 as compared to last
year. Which of following statements is most appropriate regrading understanding of Kartik
on this issue?
(a) The view of Kartik is correct and it has led to increased audit risk pertaining to
valuation of trade receivables. Therefore, team needs to go through trade receivables
ageing schedule to confirm it.

(b) The view of Kartik is incorrect.

(c) The view of Kartik is correct and it has led to increased audit risk pertaining to
valuation of trade receivables. Therefore, team needs to perform direct confirmation
procedures to confirm it.
(d) The view of Kartik is correct and it has led to increased audit risk pertaining to
valuation of trade receivables. Therefore, team needs to perform cut-off procedures
to confirm it.
1.5 The team wants to ensure that revenues of company are not overstated. Which of following
is not likely to be a relevant audit procedure in this regard?
(a) Obtaining confirmations from customers
(b) Reviewing GST returns and their reconciliation with revenue stated in statement of
profit & loss
(c) Reviewing credit notes issued by company post year end
(d) Reviewing debit notes issued by company post year end
Case Scenario - 2
CA X has accepted offer of conducting statutory audit of financial statements of DOS Solutions
Private Limited. Keeping in mind requirements of Standards on Auditing including those relating
to SA 300, he plans audit so that it is conducted in an effective manner. He knows that because
of inherent limitations of an audit, there is audit risk in audit of financial statements even though
audit is properly planned and performed in accordance with Standards on Auditing.
Considering nature of operations of the company, he has decided to use audit sampling in
performing audit procedures. The various areas of his testing include testing controls over
revenues, expenditures, assets and liabilities of the company. Besides, he has decided to
perform tests of details in respect of all these areas of financial statements.
While verifying tests of controls over purchase orders placed by the company based
on selected audit samples, he has erroneously concluded that Standard operating procedures
(SOP) for placing purchase orders are not being followed strictly and controls are less effective
than they actually are.
Further, while testing controls over wage payments, he has tested 20 sample wage sheets of
different sections of company and finds that one wage sheet has not been signed by authorized
officer of the company. The rate of deviation was earlier set by him at 3%.
During the course of designing procedures for selecting samples for verification of trade
receivables, he has decided to divide trade receivable balances into groups viz. balances in
excess of ` 10 lakh, balances in range of ` 7,50,001 to ` 10,00,000, balances in range of
` 5,00,001 to ` 7,50,000, balances in range of ` 2,50,001 to ` 5,00,000 and balances of
` 2,50,000 and below. He has planned to pick up different percentage of items from each of
above groups. Random sample is chosen from each group using random number tables.

Some of the trade payables of the company were outstanding since long. He has decided to
merely verify arithmetical accuracy of ageing schedule and its reconciliation with books of
accounts.
Therefore, nature of audit procedures, nature of financial reporting itself and need for audit to
be conducted within a reasonable period of time and at a reasonable period of cost all lead to
inherent limitations of audit.
2.1 The auditor has erroneously concluded that Standard operating procedures (SOP) for
placing purchase order are not being followed strictly and controls are less effective than
they actually are. Which of the following statements is likely to be true in this regard?
(a) It is a sampling risk and might lead to auditor expressing inappropriate audit opinion.
(b) It is a sampling risk and affects audit effectiveness.
(c) It is a sampling risk and affects audit efficiency.
(d) It is a control risk and affects audit effectiveness.
2.2 The auditor has tested 20 sample wage sheets in different sections of the company and
finds that one wage sheet has not been signed by authorized officer of the company. It
represents________?
(a) Tolerable misstatement
(b) Misstatement
(c) Tolerable rate of deviation
(d) Actual rate of deviation
2.3 Which method of selecting samples for verification of trade receivables has been planned
by auditor?
(a) Simple random sampling
(b) Systematic sampling
(c) Block sampling
(d) Stratified sampling
2.4 The auditor has decided to merely verify arithmetical accuracy and reconciliation of ageing
schedule relating to trade payables. The use of above audit procedure can lead to
_______?
(a) Sampling risk
(b) Non-sampling risk
(c) Inherent risk
(d) Control risk

2.5 Keeping in view inherent limitations of audit of financial statements, which of following
statements is likely to be most appropriate?
(a) Due to inherent limitations of audit, auditor obtains conclusive audit evidence.
(b) Due to inherent limitations of audit, auditor can be satisfied with less than persuasive
evidence.
(c) Due to inherent limitations of audit, subsequent discovery of material misstatement in
financial statements after audit, which was conducted in accordance with SAs, does
not indicate a failure of audit.
(d) Due to inherent limitations of audit, auditor can skip a difficult, time -consuming and
costly procedure.
General MCQs
1. Mr. A, auditor and Mr. B, Finance Manager of XYZ Pvt Ltd are friends. Mr. A prepares the
audit report according to the wishes and directions of Mr. B. In this situation which essential
quality of the auditor has been compromised:
(a) Professional Competence
(b) Independence
(c) Professional Skepticism
(d) Due care
2. ________ occur when auditors form relationships with the client where they end up being
too sympathetic to the client’s interests.
(a) Familiarity threats
(b) Advocacy threats
(c) Self Review threats
(d) Intimidation threats
3. The persons with responsibility for overseeing the strategic direction of the entity and
obligations related to the accountability of the entity are:
(a) management
(b) those charged with governance
(c) audit committee
(d) board of directors
4. Which of the following is a risk that arises from the use of IT systems?
(a) Direct data changes (backend changes).
(b) Limited/Monitored access.

(c) Adequate segregation of duties.

(d) Authorized access to data.
5. ABC Limited is engaged in manufacturing of electric two-wheelers. During the year, a
customer has gone to court due to incident of fire in battery-operated vehicle. The damages
claimed are to tune of `5 lakhs. The company insists that this incident was due to improper
charging of battery and has nothing to do with manufacturing design of vehicle. The
company’s lawyers advise that it is probable that company is not likely to be held liable. It
is likely to be reflected in financial statements of company under_____?
(a) Provisions
(b) Reserves
(c) Contingent liabilities
(d) Other current Liabilities
PART II B – DESCRIPTIVE QUESTIONS
1. State with reason (in short) whether the following statements are true or false:
(i) There is direct relationship between detection risks and the combined level of inherent
and control risks.
(ii) For auditor’s opinion, reasonable assurance is an absolute level of assurance.
(iii) Internally generated Goodwill can be recognized as an asset.
(iv) Sample size is not a valid criterion to distinguish between statistical and non-
statistical approaches.
(v) The inclusion of an Emphasis of Matter paragraph in the Auditor's Report affects the
auditor's opinion.
(vi) A perceived opportunity to commit fraud may exist when an individual believes
internal control can be overridden.
(vii) Control environment can prevent, detect and correct a material misstatement.
(viii) An unexplained decrease in GP Ratio may result due to fictitious sales.
Chapter 1 - Nature, Objective and Scope of Audit
2. (a) “An auditor who, before the completion of the engagement, is requested to change
the engagement to one which provides a lower level of assurance should consider
the appropriateness of doing so.” Discuss.
(b) Mr. Z, auditor of the Company, Different and Capable Limited for the financial year
2022-23, explained to audit team members about the objectives of the Independent
Auditor in accordance with the relevant Standard on Auditing. Explain those
objectives.

3. (a) There are practical and legal limitations on the auditor’s ability to obtain audit
evidence. Explain with examples.
(b) In case of certain subject matters, limitations on the auditor’s ability to detect material
misstatements are particularly significant. Discuss those subject matters.
Chapter 2 - Audit Strategy, Audit Planning and Audit Programme
4. (a) You have been appointed as an auditor of MKP Ltd. for the first time. Discuss briefly,
the factors to be considered by you while establishing overall audit strategy
(b) The audit plan includes the nature, timing and extent of audit procedures to be
performed by engagement team members. Explain.
5. In establishing the overall audit strategy, the auditor shall ascertain the reporting objectives
of the engagement. Explain with examples.
Chapter 3 - Audit Documentation and Audit Evidence
6. (a) Written representations are to be provided by the management to the auditor when
requested. Explain
(b) Audit Documentation refers to the record of three items. Explain stating clearly the
objective and nature of audit documentation.
7. (a) The auditor shall assemble the audit documentation in an audit file and complete the
administrative process of assembling the final audit file on a timely basis. Explain in
detail.
(b) T Ltd has used the services of an expert for the purpose of physical verification of its
inventory which is appearing in the financial statements of the company at ` 75
Crores. Discuss the broad parameters auditor would take into consideration while
deciding about using the work performed by the Management’s Expert in physical
verification of company’s inventory.
8. SA 500 – “Audit Evidence”, explains what constitutes audit evidence in an audit of financial
statements. A combination of tests of accounting records and other information is generally
used by the auditor to support his opinion on the financial statements. Explain and discuss
the meaning of Audit Evidence in detail.
Chapter 4 - Risk Assessment and Internal Control
9. (a) Obtaining an understanding of the entity and its environment establishes a frame of
reference within which the auditor plans the audit and exercises professional
judgment throughout the audit. Explain by giving examples.
(b) Analytical procedures performed as risk assessment procedures may identify aspects
of the entity of which the auditor was unaware. Explain
10. Risk of material misstatement refers to the risk that the financial statements are materially
misstated prior to audit. Discuss the levels at which this risk exists.

Chapter 5 - Fraud and Responsibilities of the Auditor in this Regard.

11. Fraudulent financial reporting often involves management override of controls that
otherwise may appear to be operating effectively. Illustrate any three techniques by which
fraud can be committed by management overriding controls.
12. Write the circumstances that indicate the possibility of fraud due to problematic or unusual
relationship between the auditor and management.
Chapter 6 - Audit in an Automated Environment
13. When a business operates in a more automated environment, we are likely to see several
business functions and activities happening within the systems. List down the business
functions and activities happening within the systems.
14. List the points that an auditor should consider to obtain an understanding of the Company's
automated environment.
Chapter 7- Audit Sampling
15. Chintamani Ltd appoints Chintan & Mani as statutory auditors for the financial year 202 2-
2023. Chintan & Mani seem to have different opinion on audit approach to be adopted for
audit of Chintamani Ltd. Mani is of the opinion that 100% checking is not required and they
can rely on Audit Sampling techniques in order to provide them a reasonable basis on
which they can draw conclusions about the entire population.
Chintan is concerned whether the use of audit sampling has provided a reasonable basis
for conclusions about the population that has been tested.
You are required to guide Chintan about his role if audit sampling has not provided a
reasonable basis for conclusions about the population that has been tested in accordance
with SA 530.
16. The auditor is required to project misstatements for the population to obtain a broad vie w
of the scale of misstatement. Explain in detail.
Chapter 8 - Analytical Procedures
17. Flower Limited presented its financial statements for the F.Y. 2022-2023 to its auditor for
expressing an opinion thereon. The auditor while carrying out the audit sta rted comparing
various items of profit and loss account of the year under audit with previous financial
years. What is auditor trying to achieve by carrying out those comparisons?
18. When designing and performing substantive analytical procedures, either alone or in
combination with tests of details as substantive procedures in accordance with
SA 330, the auditor shall determine the suitability of particular substantive analytical
procedures for given assertions, taking account of the assessed risks of m aterial
misstatement and tests of details, if any, for these assertions. Discuss.

Chapter 9 - Audit of Items of Financial Statements

19. M/s MP & Co, Chartered Accountants, have been appointed as auditors of LMP Private
Limited. The partner of the firm asked the Audit assistant to carry out the 'examination-in-
depth' of the payment made to a creditor. Advise him about the documents to be v erified.
20. (a) As an auditor, how will you verify the hire purchase transaction in the case of an entity
engaged in the business of hire purchase?
(b) A junior accountant of a limited company has not separated transactions of one period
from those in the ensuing period. As an Auditor, state the correct procedure to be
followed and the areas in which it can be applied.
Chapter 10 - The Company Audit
21. Provisions regarding appointment of Auditors -
(i) First auditor of a Government company and a Non-Government company.
(ii) Subsequent auditor of a Government company and a Non- Government company.
22. As per Sec 143(3)(j) of the Companies Act, 2013, the auditor’s report shall also include
such other matters as may be prescribed by Rule 11 of the Companies (Audit and Auditors)
Rule, 2014. Discuss those matters on which views and comments of the auditor are
required.
23. State the matters to be included in the auditor's report as per CARO, 20 20 regarding:
(i) Nidhi Company.
(ii) Transactions with related parties.
Chapter 11 - Audit Report
24. Communicating key audit matters in the auditor's report is in the context of the auditor
having formed an opinion on the financial statements as a whole. Communicating key audit
matters in the auditor's report is not considered as a substitute or alternative for a number
of important items. What are those items?
25. What an auditor should state in the "Basis for opinion" section of auditor's report ? When
the auditor modifies the opinion on the financial statements, explain the amendments he
should make in this section?
Chapter 12 - Bank Audit
26. Your firm has been appointed as branch auditor of SP Bank Ltd. Discuss about the primary
evidence you will look into while carrying out verification of advances.
27. TEP Industries Private Limited, a company engaged in obtaining rice from paddy, is
enjoying a cash credit facility against hypothecation of paid stocks and book debts (eligible
up to 90 days only) from LMV Bank for ` 4.00 crore. The letter sanctioning the above credit

facility stipulates margin @ 25% on stocks and @ 40% on eligible book debts up to 90
days.
While preparing stock statement as on 30.6.23, accountant of the company calculates
value of stocks for ` 5 crore (including ` 1 crore of rice which was lying in a low lying
godown and was completely damaged during recent floods caused by river Yamuna).
Debtors outstanding as on 30.6.23 are ` 3 crore (including ` 50 lacs outstanding for last 6
months). Trade creditors outstanding as on date are ` 2 crore. He calculates DP as on
30.6.23 for ` 3.30 crore. Is he correct? Justify with your workings.
What does drawing power calculated by you signify to the borrower company?
Chapter 13 - Audit of Different Types of Entities
28. (a) "Public moneys should not be utilised for the benefit of a particu lar person or section
of the community". List out the exceptions to this rule while conducting audit against
propriety.
(b) State six important advantages of audit of accounts of a Partnership firm.
SUGGESTED ANSWERS
Case Scenario – 1
Answer Key- Case Scenario - 1
Question Answer
No.
1.1 (c) The above fact along with reasons is required to be disclosed by
company in its financial statements in accordance with requirements of
Schedule III of Companies Act, 2013.
1.2 (b) Occurrence
1.3 (b) Checking appropriateness of method employed for valuation of
inventories
1.4 (b) The view of Kartik is incorrect.
1.5 (d) Reviewing debit notes issued by company post year end
Question Answer
No.
2.1 (c) It is a sampling risk and affects audit efficiency.
2.2 (d) Actual rate of deviation
2.3 (d) Stratified sampling

2.4 (b) Non-sampling risk

2.5 (c) Due to inherent limitations of audit, subsequent discovery of material
misstatement in financial statements after audit which was conducted in
accordance with SAs does not indicate a failure of audit.
General MCQ’s
1. (b) Independence
2. (a) Familiarity threats
3. (b) those charged with governance
4. (a) Direct data changes (backend changes).
5. (c) Contingent liabilities
Descriptive Answers
1. (i) Incorrect: There is an inverse relationship between detection risks and the combined
level of inherent and control risks. For example, when inherent and control risks are
high, acceptable detection risks need to be low to reduce audit risk to an acceptably
low level. On the other hand, when inherent and control risks are low, an auditor can
accept a higher detection risk and still reduce audit risk to an acceptably low level.
(ii) Incorrect: Reasonable assurance is a high level but not an absolute level of
assurance, because there are inherent limitations of an audit which result in most of
the audit evidence on which the auditor draws conclusions and bases the auditor’s
opinion being persuasive rather than conclusive.
(iii) Incorrect: As per AS-26, internally generated goodwill is not recognized as an asset
because it is not an identifiable resource controlled by the enterprise that can be
measured reliably at cost.
(iv) Correct: The decision whether to use a statistical or non-statistical sampling
approach is a matter for the auditor’s judgment; however, sample size is not a valid
criterion to distinguish between statistical and non-statistical approaches.
Whatever may be the approach non-statistical or statistical sampling, the sample
must be representative. This means that it must be closely similar to the whole
population although not necessarily exactly the same. The sample must be large
enough to provide statistically meaningful results.
(v) Incorrect: When the auditor includes an Emphasis of Matter paragraph in the
auditor’s report, the auditor shall Indicate that the auditor’s opinion is not modified in
respect of the matter emphasized. Such a paragraph shall refer only to information
presented or disclosed in the financial statements. The inclusion of an Emphasis of
Matter paragraph in the auditor’s report does not affect the auditor’s opinion.

(vi) Correct: A perceived opportunity to commit fraud may exist when an individual
believes internal control can be overridden, for example, because the individual is in
a position of trust or has knowledge of specific deficiencies in internal control.
(vii) Incorrect: The control environment in itself does not prevent, or detect and correct,
a material misstatement. It may, however, influence the auditor’s evaluation of the
effectiveness of other controls (for example, the monitoring of controls and the
operation of specific control activities) and thereby, the auditor’s assessment of the
risks of material misstatement.
(viii) Incorrect: A fictitious sale will increase the GP Ratio, instead of decreasing it. GP
ratio normally comes down if there are unrecorded sales or reversal of fictitious sale
entries recorded in the previous year or fictitious purchase or decrease in closing
stock.
2. (a) Acceptance of a Change in Engagement: An auditor who, before the completion of
the engagement, is requested to change the engagement to one which provides a
lower level of assurance, should consider the appropriateness of doing so.
A request from the client for the auditor to change the engagement may result from a
change in circumstances affecting the need for the service, a misunderstanding as to
the nature of an audit or related service originally requested or a restriction on the
scope of the engagement, whether imposed by management or caused by
circumstances. The auditor would consider carefully the reason given for the request,
particularly the implications of a restriction on the scope of the engagement,
especially any legal or contractual implications.
If the auditor concludes that there is reasonable justification to change the
engagement and if the audit work performed complied with the SAs applicable to the
changed engagement, the report issued would be appropriate for the revised terms
of engagement. In order to avoid confusion, the report would not include reference
to-
(i) the original engagement; or
(ii) any procedures that may have been performed in the original engagement,
except where the engagement is changed to an engagement to undertake
agreed-upon procedures and thus reference to the procedures performed is a
normal part of the report.
The auditor should not agree to a change of engagement where there is no
reasonable justification for doing so.
If the terms of the audit engagement are changed, the auditor and management shall
agree on and record the new terms of the engagement in an engagement letter or
other suitable form of written agreement.

If the auditor is unable to agree to a change of the terms of the audit engagement and
is not permitted by management to continue the original audit engagement, the
auditor shall-
(i) Withdraw from the audit engagement where possible under applicable law or
regulation; and
(ii) Determine whether there is any obligation, either contractual or otherwise, to
report the circumstances to other parties, such as those charged with
governance, owners or regulators.
(b) As per SA-200 “Overall Objectives of the Independent Auditor and the Conduct of an
Audit in Accordance with Standards on Auditing”, in conducting an audit of financial
statements, the overall objectives of the auditor are:
(a) To obtain reasonable assurance about whether the financial statements as a
whole are free from material misstatement, whether due to fraud or error,
thereby enabling the auditor to express an opinion on whether the financial
statements are prepared, in all material respects, in accordance with an
applicable financial reporting framework; and
(b) To report on the financial statements, and communicate as required by the SAs,
in accordance with the auditor’s findings.
3. (a) The Nature of Audit Procedures: There are practical and legal limitations on the
auditor’s ability to obtain audit evidence. For example:
1. There is the possibility that management or others may not provide, intentionally
or unintentionally, the complete information that is relevant to the preparation
and presentation of the financial statements or that has been requested by the
auditor.
2. Fraud may involve sophisticated and carefully organised schemes designed to
conceal it. Therefore, audit procedures used to gather audit evidence may be
ineffective for detecting an intentional misstatement that involves, for example,
collusion to falsify documentation which may cause the auditor to believe that
audit evidence is valid when it is not. The auditor is neither trained as nor
expected to be an expert in the authentication of documents.
3. An audit is not an official investigation into alleged wrongdoing. Accordingly, the
auditor is not given specific legal powers, such as the power of search, which
may be necessary for such an investigation.
misstatements are particularly significant. Such assertions or subject matters include:
- Fraud, particularly fraud involving senior management or collusion.
- The existence and completeness of related party relationships and transactions.

- The occurrence of non-compliance with laws and regulations.

- Future events or conditions that may cause an entity to cease to continue as a
going concern.
4. (a) As per SA-300, “Planning an Audit of Financial Statements”, the auditor shall
establish an overall audit strategy that sets the scope, timing and direction of the
audit, and that guides the development of the audit plan. In establishing the overall
audit strategy, the auditor shall:
(i) Identify the characteristics of the engagement that define its scope;
(ii) Ascertain the reporting objectives of the engagement to plan the timing of the
audit and the nature of the communications required;
(iii) Consider the factors that, in the auditor’s professional judgment, are significant
in directing the engagement team’s efforts;
(iv) Consider the results of preliminary engagement activities and, where applicable,
whether knowledge gained on other engagements performed by the
engagement partner for the entity is relevant; and
(v) Ascertain the nature, timing and extent of resources necessary to perform the
engagement.
(b) The auditor shall develop an audit plan that shall include a description of
(a) The nature, timing and extent of planned risk assessment procedures, as
determined under SA 315 “Identifying and Assessing the Risks of Material
Misstatement through Understanding the Entity and Its Environment”.
(b) The nature, timing and extent of planned further audit procedures at the
assertion level, as determined under SA 330 “The Auditor’s Responses to
Assessed Risks”.
(c) Other planned audit procedures that are required to be carried out so that the
engagement complies with SAs.
The audit plan is more detailed than the overall audit strategy that includes the nature,
timing and extent of audit procedures to be performed by engagement team members.
Planning for these audit procedures takes place over the course of the audit as the
audit plan for the engagement develops.
5. In establishing the overall audit strategy, the auditor shall ascertain the reporting objectives
of the engagement to plan the timing of the audit and the nature of the communications
required.
For Example:
• The entity’s timetable for reporting, such as at interim and final stages.

• The organization of meetings with management and those charged with governance
to discuss the nature, timing and extent of the audit work.
• The discussion with management and those charged with governance regarding the
expected type and timing of reports to be issued and other communications, both
written and oral, including the auditor’s report, management letters and
communications to those charged with governance.
• The discussion with management regarding the expected communications on the
status of audit work throughout the engagement.
6. (a) Management from Whom Written Representations Requested: SA-580, “Written
Representations”, the auditor shall request written representations from management
with appropriate responsibilities for the financial statements and knowledge of the
matters concerned.
Written representations are requested from those responsible for the preparation and
presentation of the financial statements. Those individuals may vary depending on
the governance structure of the entity, and relevant law or regulation; however,
management (rather than those charged with governance) is often the responsible
party. Written representations may therefore be requested from the entity’s chief
executive officer and chief financial officer, or other equivalent persons in entities that
do not use such titles. In some circumstances, however, other parties, such as those
charged with governance, are also responsible for the preparation and presentation
of the financial statements.
If management does not provide one or more of the requested written
representations, the auditor shall-
(i) discuss the matter with management;
(ii) re-evaluate the integrity of management and evaluate the effect that this may
have on the reliability of representations (oral or written) and audit evidence in
general; and
(iii) take appropriate actions, including determining the possible effect on the opinio n
in the auditor’s report.
The auditor shall disclaim an opinion on the financial statements if management does
not provide the written representations.
(b) Audit Documentation refers to the record of audit procedures performed, relevant
audit evidence obtained, and conclusions the auditor reached.
The objective of the auditor is to prepare documentation that provides:
(i) A sufficient and appropriate record of the basis for the auditor’s report; and
(ii) Evidence that the audit was planned and performed in accordance with SAs and
applicable legal and regulatory requirements.

Nature of Audit Documentation

Audit documentation provides:
(a) evidence of the auditor’s basis for a conclusion about the achievement of the
overall objectives of the auditor; and
(b) evidence that the audit was planned and performed in accordance with SAs and
applicable legal and regulatory requirements.
administrative process of assembling the final audit file on a timely basis after the
date of the auditor’s report.
 SQC 1 “Quality Control for Firms that perform Audits and Review of Historical
Financial Information, and other Assurance and related services”, requires firms
to establish policies and procedures for the timely completion of the assembly
of audit files.
 An appropriate time limit within which to complete the assembly of the final audit
file is ordinarily not more than 60 days after the date of the auditor’s report. The
completion of the assembly of the final audit file after the date of the auditor’s
report is an administrative process that does not involve the performance of new
audit procedures or the drawing of new conclusions.
 Changes may, however, be made to the audit documentation during the final
assembly process, if they are administrative in nature.
Examples of such changes include:
• Deleting or discarding superseded documentation.
• Sorting, collating and cross-referencing working papers.
• Signing off on completion checklists relating to the file assembly process.
• Documenting audit evidence that the auditor has obtained, discussed and
agreed with the relevant members of the engagement team before the date
of the auditor’s report.
 After the assembly of the final audit file has been completed, the auditor shall
not delete or discard audit documentation of any nature before the end of its
retention period.
 SQC 1 requires firms to establish policies and procedures for the retention of
engagement documentation. The retention period for audit engagements
ordinarily is no shorter than seven years from the date of the auditor’s report, or,
if later, the date of the group auditor’s report.

(b) When information to be used as audit evidence has been prepared using the
work of a management’s expert, the auditor shall, to the extent necessary,
having regard to the significance of that expert’s work for the auditor’s
purposes:
(a) Evaluate the competence, capabilities and objectivity of that expert;
(b) Obtain an understanding of the work of that expert; and
(c) Evaluate the appropriateness of that expert’s work as audit evidence for the
relevant assertion.
8. SA 500 – “Audit Evidence”, explains what constitutes audit evidence in an audit of financial
statements, and deals with the auditor’s responsibility to design and perform audit
procedures to obtain sufficient appropriate audit evidence to be able to draw reasonable
conclusions on which to base the auditor’s opinion.
Audit evidence may be defined as the information used by the auditor in arriving at the
conclusions on which the auditor’s opinion is based. Audit evidence includes both
information contained in the accounting records underlying the financial statements and
other information.
Explaining this further, audit evidence includes:
(1) Information contained in the accounting records: Accounting records include
• the records of initial accounting entries and supporting records, such as checks
and records of electronic fund transfers;
• invoices;
• contracts;
• the general and subsidiary ledgers, journal entries and other adjustments to the
financial statements that are not reflected in journal entries; and
• records such as work sheets and spreadsheets supporting cost allocations,
computations, reconciliations and disclosures.
(2) Other information that authenticates the accounting records and also supports
the auditor’s rationale behind the true and fair presentation of the financial
statements: Other information which the auditor may use as audit evidence includes,
for example
• minutes of the meetings,
• written confirmations from trade receivables and trade payables,
• manuals containing details of internal control etc.
A combination of tests of accounting records and other information is generally used
by the auditor to support his opinion on the financial statements.

9. (a) Obtaining an understanding of the entity and its environment, including the entity’s
internal control, is a continuous, dynamic process of gathering, updating and
analysing information throughout the audit. This understanding establishes a frame
of reference within which the auditor plans the audit and exercises professional
judgment throughout the audit, for example, when:
 Assessing risks of material misstatement of the financial statements;
 Determining materiality in accordance with SA 320;
 Considering the appropriateness of the selection and application of accounting
policies;
 Identifying areas where special audit consideration may be necessary, for
example, related party transactions, the appropriateness of management’s use
of the going concern assumption, or considering the business purpose of
transactions;
 Developing expectations for use when performing analytical procedures;
 Evaluating the sufficiency and appropriateness of audit evidence obtained, such
as the appropriateness of assumptions and of management’s oral and written
representations.
of the entity of which the auditor was unaware and may assist in assessing the risks
of material misstatement in order to provide a basis for designing and implementing
responses to the assessed risks. Analytical procedures performed as risk assessment
procedures may include both financial and non-financial information, for example, the
relationship between sales and square footage of selling space or volume of goods
sold.
Analytical procedures may help identify the existence of unusual transactions or
events, and amounts, ratios, and trends that might indicate matters that have audit
implications. Unusual or unexpected relationships that are identified may assist the
auditor in identifying risks of material misstatement, especially risks of material
misstatement due to fraud.
However, when such analytical procedures use data aggregated at a high level (which
may be the situation with analytical procedures performed as risk assessment
procedures), the results of those analytical procedures only provide a broad initial
indication about whether a material misstatement may exist. Accordingly, in such
cases, consideration of other information that has been gathered when identifying the
risks of material misstatement together with the results of such analytical procedures
may assist the auditor in understanding and evaluating the results of the analytical
procedures.

10. The risks of material misstatement may exist at two levels:

(i) The overall financial statement level - Risks of material misstatement at the overall
financial statement level refer to risks of material misstatement that relate pervasively
to the financial statements as a whole and potentially affect many assertions.
(ii) The assertion level for classes of transactions, account balances, and
disclosures - Risks of material misstatement at the assertion level are assessed in
order to determine the nature, timing, and extent of further audit procedures
necessary to obtain sufficient appropriate audit evidence. This evidence enables the
auditor to express an opinion on the financial statements at an acceptably low level
of audit risk.
11. Techniques of fraud committed by Management: Fraudulent financial reporting
often involves management override of controls that otherwise may appear to be operating
effectively. Fraud can be committed by management overriding controls using such
techniques as:
(1) Recording fictitious journal entries, particularly close to the end of an accounting
period, to manipulate operating results or achieve other objectives
(2) Inappropriately adjusting assumptions and changing judgments used to estimate
account balances
(3) Omitting, advancing or delaying recognition in the financial statements of events and
transactions that have occurred during the reporting period
(4) Concealing, or not disclosing, facts that could affect the amounts recorded in the
financial statements
(5) Engaging in complex transactions that are structured to misrepresent the financial
position or financial performance of the entity
(6) Altering records and terms related to significant and unusual transactions.
12. Problematic or unusual relationships between the auditor and management,
including:
1. Denial of access to records, facilities, certain employees, customers, vendors, or
others from whom audit evidence might be sought.
2. Undue time pressures imposed by management to resolve complex or contentious
issues.
3. Complaints by management about the conduct of the audit or management
intimidation of engagement team members, particularly in connection with the
auditor’s critical assessment of audit evidence or in the resolution of potential
disagreements with management.
4. Unusual delays by the entity in providing requested information.

5. Unwillingness to facilitate auditor access to key electronic files for testing through the
use of computer-assisted audit techniques.
6. Denial of access to key IT operations staff and facilities, including security, operations,
and systems development personnel.
7. An unwillingness to add or revise disclosures in the financial statements to make them
more complete and understandable.
8. An unwillingness to address identified deficiencies in internal control on a timely
basis.
9. Unwillingness by management to permit the auditor to meet privately with those
charged with governance
10. Accounting Policy that appears to be variance with industry norms
11. Frequent changes in accounting estimates that do not appear to result from changed
circumstances
12. Tolerance of variations in the entity’s code of conduct
13. Relevance of Information Technology in an Audit: When a business operates in a more
automated environment it is likely that we will see several business functions and activities
happening within the systems. Following are such types of functions and activities:
(i) Computation and Calculations are automatically carried out (for example, bank
interest computation and inventory valuation).
(ii) Accounting entries are posted automatically (for example, sub-ledger to GL postings
is automatic).
(iii) Business policies and procedures, including internal controls, are applied
automatically (for example, delegation of authority for journal approvals, customer
credit limit checks are performed automatically).
(iv) Reports used in business are produced from systems. Management and other
stakeholders rely on these reports and information produced (for example, debtors
ageing report).
(v) User access and security are controlled by assigning system roles to users (for
example, segregation of duties can be enforced effectively).
14. Understanding of the Company’s Automated Environment: Given below are some of
the points that an auditor should consider to obtain an understanding of the company’s
automated environment
• Information systems being used (one or more application systems and what they are)
• their purpose (financial and non-financial)
• Location of IT systems - local vs global

• Architecture (desktop based, client-server, web application, cloud based)

• Version (functions and risks could vary in different versions of same application)
• Interfaces within systems (in case multiple systems exist)
• In-house vs Packaged
• Outsourced activities (IT maintenance and support)
• Key persons (CIO, CISO, Administrators)
15. As per SA 530, “Audit Sampling”, the auditor shall evaluate:
(a) The results of the sample; and
(b) Whether the use of audit sampling has provided a reasonable basis for conclusions
about the population that has been tested.
If the auditor concludes that audit sampling has not provided a reasonable basis for
conclusions about the population that has been tested, the auditor may:
(I) Request management to investigate misstatements that have been identified and the
potential for further misstatements and to make any necessary adjustments; or
(II) Tailor the nature, timing and extent of those further audit procedures to best achi eve
the required assurance. For example, in the case of tests of controls, the auditor might
extend the sample size, test an alternative control or modify related substantive
procedures.
16. The auditor is required to project misstatements for the population to obtain a broad view
of the scale of misstatement but this projection may not be sufficient to determine an
amount to be recorded.
 When a misstatement has been established as an anomaly, it may be excluded
when projecting misstatements to the population. However, the effect of any such
misstatement, if uncorrected, still needs to be considered in addition to the projection
of the non-anomalous misstatements.
 For tests of details, the auditor shall project misstatements found in the sample to the
population whereas for tests of controls, no explicit projection of deviations is
necessary since the sample deviation rate is also the projected deviation rate for the
population as a whole.
17. Purpose of Applying Analytical Procedure: Analytical procedures use comparisons and
relationships to assess whether account balances or other data appear reasonable.
The auditor of Flower Ltd. would achieve the following by carrying out the comparison
stated in the question:
(i) If balances included in the Statement of Profit and Loss of an entity are compared
with those contained in the Statement of Profit and Loss with that of the previous

period, it would be possible to find out the reasons for increase or decrease i n the
amount of profits of those years.
(ii) By setting up certain expenses’ ratios on the basis of balances included in the
Statement of Profit and Loss, for the year under audit, comparing them with the same
ratios for the previous year, it is possible to ascertain the extent of increase or
decrease in various items of expenditure in relation to sales and that of trading profit
in relation to sales.
(iii) If differences are found to be material, the auditor would ascertain the reasons thereof
and assess whether the accounts have been manipulated to inflate or suppress
profits.
(iv) It would be possible to identify the existence of unusual transactions, amounts, ratios
and trends that might indicate matters that have audit implications.
18. Substantive analytical procedures are generally more applicable to large volumes of
transactions that tend to be predictable over time.
 The application of planned analytical procedures is based on the expectation that
relationships among data exist and continue in the absence of known conditions to
the contrary.
 However, the suitability of a particular analytical procedure will depend upon the
auditor’s assessment of how effective it will be in detecting a misstatement that,
individually or when aggregated with other misstatements, may cause the financial
statements to be materially misstated.
 In some cases, even an unsophisticated predictive model may be effective as an
analytical procedure.
Different types of analytical procedures provide different levels of assurance. Analytical
procedures involving, for example, the prediction of total rental income on a building
divided into apartments, taking the rental rates, the number of apartments and vacancy
rates into consideration, can provide persuasive evidence and may eliminate the need for
further verification by means of tests of details, provided the elements are appropriately
verified. In contrast, calculation and comparison of gross margin percentages as a means
of confirming a revenue figure may provide less persuasive evidence, but may provide
useful corroboration if used in combination with other audit procedures.
The determination of the suitability of particular substantive analytical procedure is
influenced by the nature of the assertion and the auditor’s assessment of the ris k of
material misstatement. For example, if controls over sales order processing are weak, the
auditor may place more reliance on tests of details rather than on substantive analytical
procedures for assertions related to receivables.
Particular substantive analytical procedures may also be considered suitable when tests
of details are performed on the same assertion. For example, when obtaining audit

evidence regarding the valuation assertion for accounts receivable balances, the auditor
may apply analytical procedures to an aging of customers’ accounts in addition to
performing tests of details on subsequent cash receipts to determine the collectability of
the receivables.
19. Examination – in depth of the payment made to creditor: The Audit Assistant of M/s
MP & Co., should verify the following documents of LMP Private Limited in case of payment
to a creditor is to be verified “in depth”:
(i) The invoice and statement of account received from the supplier.
(ii) The entry in the inventory record showing that the goods were received.
(iii) The Goods Received Note and Inspection Certificate showing that the goods on
receipt were verified and inspected.
(iv) The copy of the original order and authority showing that the goods in fact were
ordered by an authority which was competent to do so.
20. (a) Verification of Hire-purchase transactions: While checking the hire-purchase
transaction, the auditor may examine the following:
1. Hire purchase agreement is in writing and is signed by all parties.
2. Hire purchase agreement specifies clearly -
(i) The hire-purchase price of the goods to which the agreement relates;
(ii) The cash price of the goods, that is to say, the price at which the goods
may be purchased by the hirer for cash;
(iii) The date on which the agreement shall be deemed to have commenced;
(iv) The number of instalments by which the hire-purchase price is to be paid,
the amount of each of those instalments, and the date, or the mode of
determining the date, upon which it its payable, and the person to whom
and the place where it is payable; and
(v) The goods to which the agreement relates, in a manner sufficient to identify
them.
3. Ensure that payments are being received regularly as per the agreement.
(b) Cut-off Arrangement:
1. Accounting is a continuous process because the business never comes to halt.
It is, therefore, necessary that transactions of one period would be separated
from those in the ensuing period so that the results of the working of each period
can be correctly ascertained. The arrangement that is made for this purpose is
technically known as “cut-off arrangement”.
2. It essentially forms part of the internal control system of the organisation.

3. Accounts, other than sales, purchase and inventory are not usually affected by
the continuity of the business and therefore, this arrangement is generally
applied only to sales, purchase and inventory.
4. The auditor satisfies by examination and test-checks that the cut-off procedures
are adequately followed and ensure that:
(i) Goods purchased, property in which has already been passed on to the
client, have in fact been included in the inventories and that the liability has
been provided for in case credit purchase.
(ii) Goods sold have been excluded from the inventories and credit has been
taken for the sales. If the value of sales is to be received, the concerned
party has been debited.
5. The auditor may examine a sample of documents, evidencing the movement of
inventory into and out of stores, including documents pertaining to period shortly
before and after the cut-off date and check whether inventories represented by
those documents were included or excluded as appropriate during inventory
taking for perfect and correct presentation in the financial statements.
21. (i) Appointment of First Auditor of a Government Company: Section 139(7) of the
Companies Act, 2013 provides that in the case of a Government company or any
other company owned or controlled, directly or indirectly, by the Central Government,
or by any State Government, or Governments, or partly by the Central Government
and partly by one or more State Governments, the first auditor shall be appointed by
the Comptroller and Auditor-General of India within 60 days from the date of
registration of the company.
In case the Comptroller and Auditor-General of India does not appoint such auditor
within the above said period, the Board of Directors of the company shall appoint
such auditor within the next 30 days. Further, in the case of failure of the Board to
appoint such auditor within next 30 days, it shall inform the members of the company
who shall appoint such auditor within 60 days at an extraordinary general meeting.
Auditors shall hold office till the conclusion of the first annual general meeting.
Appointment of First Auditor of a Non-Government Company: As per Section
139(6) of the Companies Act, 2013, the first auditor of a company, other than a
Government company, shall be appointed by the Board of Directors within 30 days
from the date of registration of the company.
In the case of failure of the Board to appoint the auditor, it shall inform the members
of the company.
The members of the company shall within 90 days at an extraordinary general
meeting appoint the auditor. Appointed auditor shall hold office till the c onclusion of
the first annual general meeting.

(ii) Appointment of Subsequent Auditor of a Government Company: As per Section

139(5) of the Companies Act, 2013, in the case of a Government company or any
or by any State Government or Governments, or partly by the Central Government
and partly by one or more State Governments, the Comptroller and Auditor-General
of India shall, in respect of a financial year, appoint an auditor duly qualified to be
appointed as an auditor of companies under this Act, within a period of 180 days from
the commencement of the financial year, who shall hold office till the conclusion of
the annual general meeting.
Appointment of Subsequent Auditor of a Non-Government Company: As per
section 139(1) of the Companies Act, 2013, every company shall, at the first annual
general meeting appoint an individual or a firm as an auditor who shall hold office
from the conclusion of that meeting till the conclusion of its sixth annual general
meeting and thereafter till the conclusion of every sixth meeting.
22. Rule 11 of the Companies (Audit and Auditors) Rules, 2014 prescribes the other matters
to be included in auditor’s report. The auditor’s report shall also include their views and
comments on the following matters, namely:
(i) whether the company has disclosed the impact, if any, of pending litigations on its
financial position in its financial statement;
(ii) whether the company has made provision, as required under any law or accounting
standards, for material foreseeable losses, if any, on long term contracts including
derivative contracts;
(iii) whether there has been any delay in transferring amounts, required to be transferred,
to the Investor Education and Protection Fund by the company.
(iv) (1) Whether the management has represented that, to the best of it’s knowledge
been advanced or loaned or invested (either from borrowed funds or share
premium or any other sources or kind of funds) by the company to or in any other
person(s) or entity(ies), including foreign entities (“Intermediaries”), with the
understanding, whether recorded in writing or otherwise, that the Intermediary
shall, whether, directly or indirectly lend or invest in other persons or entities
identified in any manner whatsoever by or on behalf of the company (“Ultimate
Beneficiaries”) or provide any guarantee, security or the like on behalf of the
Ultimate Beneficiaries;
(2) Whether the management has represented, that, to the best of it’s knowledge
been received by the company from any person(s) or entity(ies), including
foreign entities (“Funding Parties”), with the understanding, whether recorded in
writing or otherwise, that the company shall, whether, directly or indirectly, lend

or invest in other persons or entities identified in any manner whatsoever by or

on behalf of the Funding Party (“Ultimate Beneficiaries”) or provide any
guarantee, security or the like on behalf of the Ultimate Beneficiaries; and
(3) Based on such audit procedures that the auditor has considered reasonable and
appropriate in the circumstances, nothing has come to their notice that has
caused them to believe that the representations under sub-clause (1) and (2)
contain any material misstatement.
(v) Whether the dividend declared or paid during the year by the company is in
compliance with section 123 of the Companies Act, 2013.
(vi) Whether the company has used such accounting software for maintaining its books
of account which has a feature of recording audit trail (edit log) facility and the same
has been operated throughout the year for all transactions recorded in the software
and the audit trail feature has not been tampered with and the audit trail has been
preserved by the company as per the statutory requirements for record retention
23. As per clause (xii) of CARO, 2020, the following matters are required to be included
in the auditor’s report relating to Nidhi Company
(a) whether the Nidhi Company has complied with the Net Owned Funds to Deposits in
the ratio of 1:20 to meet out the liability;
(b) whether the Nidhi Company is maintaining ten per cent. unencumbered term deposits
as specified in the Nidhi Rules, 2014 to meet out the liability;
(c) whether there has been any default in payment of interest on deposits or repayment
thereof for any period and if so, the details thereof;
As per clause (xiii) of CARO, 2020, the following matter is required to be included in
the auditor’s report relating to transactions with the related parties:
whether all transactions with the related parties are in compliance with sections 177 and
188 of Companies Act where applicable and the details have been disclosed in the financial
statements, etc., as required by the applicable accounting standards;
24. As per SA 701, “Communicating Key Audit Matters in the Auditor’s Report”, communicating
key audit matters in the auditor’s report is in the context of the auditor having formed an
opinion on the financial statements as a whole. Communicating key audit matters in the
auditor’s report is not:
(i) A substitute for disclosures in the financial statements that the applicable financial
reporting framework requires management to make, or that are otherwise necessary
to achieve fair presentation;
(ii) A substitute for the auditor expressing a modified opinion when required by the
circumstances of a specific audit engagement in accordance with SA 705,
“Modifications to the Opinion in the Independent Auditor’s Report”;

(iii) A substitute for reporting in accordance with SA 570 when a material uncertainty
exists relating to events or conditions that may cast significant doubt on an entity’s
ability to continue as a going concern; or
(iv) A separate opinion on individual matters.
25. An auditor should state in “Basis for Opinion” section of Auditor’s Report as under:
Basis for Opinion:
The auditor’s report shall include a section, directly following the Opinion section, with the
heading “Basis for Opinion”, that:
(i) States that the audit was conducted in accordance with Standards on Auditing;
(ii) Refers to the section of the auditor’s report that describes the auditor’s responsibilities
under the SAs;
(iii) Includes a statement that the auditor is independent of the entity in accordance with
the relevant ethical requirements relating to the audit and has fulfilled the auditor’s
other ethical responsibilities in accordance with these requirements.
(iv) States whether the auditor believes that the audit evidence the auditor has obtained
is sufficient and appropriate to provide a basis for the auditor’s opinion.
Amendments an Auditor should make:
When the auditor modifies the opinion on the financial statements, the auditor shall,
in addition to the specific elements required by SA 700 (Revised):
(i) Amend the heading “Basis for Opinion” required by para of SA 700 (Revised) to “Basis
for Qualified Opinion,” “Basis for Adverse Opinion,” or “Basis for Disclaimer of
Opinion,” as appropriate; and
(ii) Within this section, include a description of the matter giving rise to the modification.
26. Verification of Advances: Advances generally constitute the major part of the assets of
the bank. There are large number of borrowers to whom variety of advances are granted.
The audit of advances requires the major attention from the auditors.
In carrying out audit of advances, the auditor is primarily concerned with obtaining evidence
about the following:
(i) Amounts included in balance sheet in respect of advances which are outstanding at
the date of the balance sheet.
(ii) Advances represent amount due to the bank.
(iii) Amounts due to the bank are appropriately supported by Loan documents and other
documents as applicable to the nature of advances.
(iv) The stated basis of valuation of advances is appropriate and properly applied, and
that the recoverability of advances is recognised in their valuation.

(v) The advances are disclosed, classified and described in accordance with recognised
accounting policies and practices and relevant statutory and regulatory requirements.
(vi) Appropriate provisions towards advances have been made as per the RBI norms,
Accounting Standards and generally accepted accounting practices.
(vii) There are no unrecorded advances.
27. The calculation of DP is as under:
Value of stocks as on 30.6.23 ` 5.00 crore
Less: value of damaged stocks ` 1.00 crore
Value of stocks considered as on 30.6.23 ` 4.00 crore
Less: Trade creditors ` 2.00 crore
Paid stocks ` 2.00 crore
Less: Margin @ 25% ` 0.50 crore
Drawing power for stocks [A] ` 1.50 crore
Value of Trade debtors ` 3.00 crore
Less: Debtors outstanding for more than 90 days ` 0.50 crore
` 2.50 crore
Less: Margin @ 40% ` 1.00 crore
Drawing power for Book debts [B] ` 1.50 crore
Total drawing power [A+ B] ` 3.00 crore
Accountant’s DP calculation is not correct. The drawing power of ` 3.00 crore signifies that
company can utilize funds to the tune of `3.00 crore only against sanctioned cash credit
limit of ` 4.00 crore.
28. (a) Exceptions to the rule – Audit Against Propriety: Public moneys should not be
utilised for the benefit of a particular person or section of the community unless:
(i) the amount of expenditure involved is insignificant; or
(ii) a claim for the amount could be enforced in a Court of law; or
(iii) the expenditure is in pursuance of a recognised policy or custom; and
(iv) the amount of allowances, such as travelling allowances, granted to meet
expenditure of a particular type should be so regulated that the allowances are
not, on the whole, sources of profit to the recipients.
(b) Advantages of Audit of Accounts of a Partnership: On broad considerations, the
advantages of audit of accounts of a partnership could be stated as follows:
(1) Audited accounts provide a convenient and reliable means of settling accounts
between the partners and, thereby, the possibility of occurrence of a dispute

among them is mitigated. On this consideration, it is usually provided in and

accepted by the partners, shall be binding upon them, unless some manifest
error is brought to light within a specified period subsequent to the accounts
having been signed.
(2) On the retirement or death of a partner, audited accounts, which have been
accepted by the partners, constitute a reliable evidence for computing the
amounts due to the retiring partner or to the representative of the deceased
partner in respect of his share of capital, profits and goodwill.
(3) The accounts of a partnership, which have been audited, are generally accepted
by the Income Tax Department as the basis for computing the assessable
income of the partners.
(4) Audited statement of accounts are relied upon by the banks when advancing
loans, as well as by prospective purchasers of the business, as evidence of the
profitability of the concern and its financial position.
(5) Audited statements of account can be helpful in the negotiations to admit a
person as a partner, especially when they are available for a number of past
years.
(6) An audit is an effective safeguard against any undue advantage being taken by
a working partner or partners especially in the case of those partners who are
not actively associated with the working of the firm.

At Page 10- Topic “Shares issued at a discount” is revised and being given hereunder. Students
given below:

2 INTERMEDIATE EXAMINATION: MAY, 2023
Chapter 10 – COMPANY AUDIT

Chapter 10 (Printed Copy) At Page 10.61- Topic “Punishment for non-compliance” is revised
and being given hereunder. Students are advised to study this topic from here and not from
printed copy of the study material.
Punishment for non-compliance - Section 147 of the Companies Act, 2013 prescribes
following punishments for contravention:
(2) If an auditor of a company contravenes any of the provisions of section 139, secti on 144
or section 145, the auditor shall be punishable with fine which shall not be less than twenty -
with fine which shall not be less than fifty thousand rupees but which may extend to twenty-
(3) Where an auditor has been convicted under sub-section (2), he shall be liable to: -
or colluded in an fraud by, or in relation to or by, the company or its d irectors or officers,

liable.
link given below:

Case Scenario - 1
Kaur & Associates, a sole proprietor firm of Simran Kaur, is offered appointment as auditor of a
company engaged in manufacturing of automobile components for the first time. She is fa ct
checking about the integrity of promoters of the company and key managerial persons. Matters
such as competence of staff to perform the engagement are also considered by her. The
appointment is subsequently accepted by her.
She is also taking into account number and location of branches of the company, requirements
of Schedule III of Companies Act, 2013 and expected time by which audit has to be completed
keeping in view statutory requirements. Initially, she has thought it proper to inquire key
employees of the company in procurement and marketing departments and planned for the
same. She has also planned to visit three plants of the company. The purpose of planned
inquiry and visit is to identify and assess risk of material misstatements.
A detailed set of instructions has been prepared by her office and it has been handed over to
assistants in engagement team. These set of instructions include details of extent of checking
and nature of audit procedures to be performed regarding purchases, sales, items of income,
items of expenditure etc. During the course of execution of above set of instructions, it has been
brought to her notice that company is also producing substantial quantities of scrap generated
during manufacturing process. However, no instructions have been given to engagement team
in this regard.
Based on above, answer the following questions:
(1.1) Auditor is fact checking about promoters and key managerial persons. She is also
considering competence of staff to perform engagement. What is she trying to do?
(a) She is establishing audit strategy.
(b) She is conducting preliminary engagement activities.
(c) She is designing audit plan.

(d) She is checking her compliance of ethical requirements.

(1.2) Consideration of number and location of branches, requirements of financial reporting
framework and expected time of completion are relevant factors primarily for which of the
following -
(a) Developing audit plan
(b) Establishing overall audit strategy
(c) Designing audit programme
(d) Designing risk assessment procedures
(1.3) Taking into account description of planned inquiry and visit, which of the following
statements is TRUE?
(a) Planned inquiry and visit fall in area of audit strategy.
(b) Planned inquiry and visit are planned risk assessment procedures and fall in field of
audit plan.
(c) The said description is not related to audit planning.
(d) Planned inquiry and visit fall in scope of audit programme.
(1.4) What is detailed set of instructions given to assistants in engagement team known as?
(a) Audit guidelines
(b) Audit plan
(c) Audit Programme
(d) Audit Procedures
(1.5) The issue of generation of scrap has been overlooked in detailed set of instructions given
to engagement team. What should be proper course of action by CA Simran Kaur?
(a) She should ignore this information as audit has already begun.
(b) She should modify earlier set of instructions.
(c) She should leave the matter to wisdom of engagement team.
(d) She should put the ball in court of management as she was not provided with
complete information earlier.
Case Scenario - 2
CA Rajan Pillai is heading the engagement team conducting audit of a company. While audit is
in progress, consider following issues regarding audit documentation: -
(A) Audit programme was prepared assigning responsibilities for different types of works to be
performed by team members. The engagement team consists of 4 members Mohit (CA

final student), Rohit (CA final student), Shobhit (Paid CA) and CA Rajan Pillai (partner of
audit firm).
(B) The team has determined materiality for financial statements as a whole.
(C) The team has assessed risks of material misstatements to be low.
(D) CA Shobhit is responsible for attending inventory count process and putting down its
documentation part.
(E) During the course of audit, many related party transactions have come to notice.
On the basis of above, answer the following questions: -
(2.1) Work relating to verification of revenue was assigned to Mohit in audit progr amme.
However, it is being performed by Rohit actually. Verification of trade receivables was
planned to be carried out by Rohit in audit programme. However, it being performed by CA
Rajan Pillai due to last minute practical issues. Which of the following statements is most
appropriate in this regard relating to audit documentation?
(a) Audit programme contains names of persons and work to be performed. It is
immaterial whether work assigned to one person is performed by another person.
(b) Audit programme was already prepared. Only persons assigned specific
responsibilities can perform those duties.
(c) It is necessary that audit programme be suitably updated or notes are given in working
papers to this effect so that planned duties are in accordance with actual work
performance.
(d) Changes in audit programme or notes clarifying the matter are required only when a
person not forming part of engagement team is deputed to perform a duty. Otherwise,
this issue of inter-shuffling of team members is frivolous.
(2.2) As regards materiality, which of the following statements is most appropriate in context of
audit documentation?
(a) Materiality has already been determined. There is no need to put it into working
papers.
(b) Materiality depends upon professional judgment of auditor. Whatever amount has
been determined can be documented in working papers.
(c) Materiality arrived on basis of professional judgment along with factors considered in
the determination has to be documented.
(d) Materiality has been arrived upon professional judgment. It also depends upon
professional judgment of auditor whether he wants to document it or not.
(2.3) As regards team’s assessment that risk of material misstatements is low, which of the
following statements is odd one relating to documentation of risk?

(a) Discussion amongst engagement team members and detail of significant decisions
reached has to be documented.
(b) Details of risk assessment procedures have to be documented.
(c) Details about how understanding of each component of internal control was obtained
has to be documented.
(d) Precise calculation of risk of material misstatements has to be documented.
(2.4) CA Shobhit is responsible for attending physical inventory count of the company. Which of
the following is usually not true in this regard relating to audit documentation?
(a) Dates on which physical inventory count process was attended by him should be
documented. It may also include photographs of that date showing his attendance of
inventory counting process at a particular location.
(b) Detail of test counting undertaken should form part of audit documentation.
(c) Detail of obsolete goods found should form part of audit documentation.
(d) Reports showing that stocks conform to quality control standards in accordance with
law are essential part of audit documentation.
(2.5) As regards related party transactions, which of the following should not be part of audit
documentation?
(a) Management representation letter in this regard
(b) Related party transaction policy of the company
(c) Documentation to show that such transactions are at arm’s length basis
(d) Documentation to show that such transactions are at close length basis.
General MCQs
1. The term “Drawing Power” is associated with which of the following facilities as sanctioned
by any Bank:
(a) Letter of Credit
(b) Term Loan
(c) Staff Advances
(d) Cash Credit Limit
2. ________aims at ascertaining that the expenditure incurred has been on the purpose for
which the grant and appropriation had been provided and that the amount of such
expenditure does not exceed the appropriation made.
(a) Audit against provision of funds
(b) Propriety audit

(c) Audit of sanctions

(d) Audit against rules and orders
3. Which of the following is not correct:-
(a) AS 18 – Related Party Disclosures
(b) AS 10 – Property, Plant & Equipment
(c) AS 28 – Impairment of Assets
(d) AS 16 – Intangible Assets
4. Tools and techniques that auditors use in applying the principles of data analytics are
known as-
(a) Computer Aided Audit Technique
(b) Computer Aided Audit Tools
(c) Computer Accounting and Auditing Technique
(d) Computer Assisted Audit Technique
5. ___________refers to events or conditions that indicate an incentive or pressure to commit
fraud or provide an opportunity to commit fraud:-
(a) Fraud Risk Factors
(b) Misappropriation of assets
(c) Incentives/ Pressures
(d) Fraud
(i) According to SA 315, the objective of the auditor is to identify and assess the risk of
material misstatement, whether due to fraud or error, only at assertion level.
(ii) Control environment can prevent, detect and correct a material misstatement.
(iii) While auditing the books of accounts of XYZ Ltd., the auditor of the company looked
at the inventory counting process to obtain audit evidence. In the present case, audit
procedure used by the auditor is known as “Inspection”.
(iv) When inventory under the custody and control of a third party is material to the
financial statements, the auditor can obtain sufficient appropriate audit evidence
regarding the existence and condition of that inventory by taking written
representation from management.
(v) Assertions refer to the representations by the auditor to consider the different types
of the potential misstatements that may occur.

(vi) As per SA 200 “Overall Objectives of the Auditor”, in conducting an audit of financial
statements, the overall objectives of the auditor is to obtain absolute assurance about
whether the financial statements as a whole are free from material misstatement due
to fraud.
(vii) Once the overall audit has been established, an audit plan can be developed to
address the various matters identified in the overall audit strategy. The establishment
of the overall audit strategy and the detailed audit plan are closely inter -related.
(viii) Teeming and lading is one of the techniques of inflating cash payments.
2. (a) Professional integrity and independence are considered essential characteristics of
all the professions. There are two interlinked perspectives of independence of
auditors, one, independence of mind and two, independence in appearance. Explain.
(b) The Chartered Accountant has a responsibility to remain independent by taking into
account the context in which they practice, the threats to independence and the
safeguards available to eliminate the threats. Explain the guiding principles in the
above context.
3. (a) The actions of the engagement partner and appropriate messages to the other
members of the engagement team, in taking responsibility for the overall quality on
each audit engagement, emphasise the importance to audit quality. Explain w.r.t
SA 220
(b) An audit is distinct from investigation. However, it is quite possible that sometimes
investigation results from the prima facie findings of the auditor. Discuss.
4. (a) SA 300 states that auditor should plan his work to enable him to conduct an effective
audit in an efficient and timely manner. What matters should be covered in such Plan
by the auditor?
(b) Adequate planning benefits the audit of financial statements in several ways. Explain
5. In establishing the overall audit strategy, the auditor shall identify the characteristics of the
engagement that define its scope. Explain with example.
6. (a) M/s Samar Amar & Associates are the statutory auditors of Ganga Ltd. for FY
2020-21. CA Samar is the engagement partner for such assignment. While discussing
with the engagement team, CA Samar briefed his team that “the auditor shall
assemble the audit documentation in an audit file and complete the administrative
process of assembling the final audit file on a timely basis after the date of the
auditor’s report. SQC 1 requires firms to establish policies and procedures for the
retention of engagement documentation.” Explain.

(b) SA 230, “Audit Documentation” deals with the auditor’s responsibility to prepare audit
documentation for an audit of financial statements. Such audit documentation serves
various purposes. Explain.
7. (a) M/s Suraj & Associates are the statutory auditors of Yuvraj Ltd. for the FY 2020 -21.
During the course of audit, CA Suraj, the engagement partner requested the
management of the company to provide written representation with respect to
valuation of a transaction. The management, however, did not provide the same to
CA Suraj. What course of action should CA Suraj follow in such a situation?
(b) Explain the various factors affecting the auditor’s judgments as to the sufficiency of
the audit evidence.
8. What is the objective of the auditor with respect to the opening balances when conducting
an initial audit engagement as per the relevant SA?
9. (a) It has been suggested that actual operation of the internal con trol should be tested
by the application of procedural tests and examination in depth. Explain with the help
of example in respect of the procedure for sales.
(b) Briefly discuss the limitations of Internal Control.
10. The division of internal control into five components provides a useful framework for
auditors to consider how different aspects of an entity's internal control may affect the
audit. Mention those components of internal control.
11. Detection of manipulation of accounts with a view to presenting a false state of a ffairs is a
task requiring great tact and intelligence. Explain stating clearly the objective behind
committing this type of fraud.
12. In an audit of Financial statements of PQR Ltd., CA Vikas Khemka finds that the Cash
receipts have been suppressed. Give examples of such techniques which may have led
him suspect this.
13. With respect to audit in an automated environment, explain the following:
(i) CAATs
(ii) Data Analytics
(iii) Database
(iv) Information Systems
(v) Privileged access

14. The auditor’s responsibility includes reporting on Internal Financial Controls over Financial
Reporting which includes an understanding IT environment of the company and relevant
risks and controls. Mention the situations where IT will be relevant to an audit.
15. Random selection ensures that all items in the population or within each stratum have a
known chance of selection. Random sampling includes two very popular methods. Explain.
16. While planning the audit of S Ltd. you want to apply sampling techniques. What are the
risk factors you should keep in mind?
17. If analytical procedures performed in accordance with SA 520 identify fluctuations or
relationships that are inconsistent with other relevant information or that differ from
expected values by a significant amount, the auditor shall investigate such di fferences.
Explain
18. While applying the Substantive Analytical Procedures, what techniques can be used by the
statutory auditor of a company to obtain sufficient and appropriate audit evidence?
19. While verifying the PPE of the client entity, the auditor also needs to consider whether the
PPE has been valued appropriately and as per the generally accepted accounting
principles and practices. Explain.
20. (a) What are the required disclosures for cash & Cash equivalents to be made by the
company as per Schedule III (Part I) to Companies Act, 2013?
(b) CA Saurabh is the statutory auditor of UVW Ltd. for the FY 20-21. While verifying the
purchases made by UVW Ltd., CA Saurabh decided to perform analytical procedures
to obtain audit evidence regarding the overall reasonableness of purchase quantity
and price of purchases. What analysis should CA Saurabh perform?
21. XYZ Ltd. removed its statutory auditor by passing a resolution in the meeting of Board of
Directors for his removal without obtaining prior approval of the Central Government. Such
removal of the auditor was made before the expiry of term of the auditors. Give your
comments in this regard.
22. S Private Limited has a paid-up share capital of ` 49 Crores and borrowings from bank of
` 99 Crores. The audit firm P & Company was appointed as statutory auditors of the
Company for one term of six consecutive years. Is the provision of rotation of auditors
applicable to the company? Comment.

23. The recommendation for appointment of auditors is one of the several functions performed
by the Audit Committee. Discuss other key responsibilities of the Audit Committee in
accordance with section 177 of the Companies Act, 2013.
24. The description of management’s responsibilities in the auditor’s report includes reference
to management’s responsibilities as it helps to explain to users the premise on which an
audit is conducted. Explain
25. In considering the qualitative aspects of the entity’s accounting practices, the auditor may
become aware of possible bias in management’s judgements. The auditor may conclude
that lack of neutrality together with uncorrected misstatements causes the financial
statements to be materially misstated. Explain and analyse the indicators of lack of
neutrality with examples, wherever required.
26. Explain the audit approach you would follow to check the Operating Expenses of a Bank.
27. Mr Rishikesh, the Bank Manager develops controls to assist in managing key business and
financial risks. Discuss the various requirements for an effective risk management system
in a bank.
28. (a) The audit of Government expenditure is one of the major components of Government
audit. Briefly explain the basic standards set in relation to audit of Government
expenditure.
(b) State the important objectives of Local bodies Audit.
SUGGESTED ANSWERS
Case Scenario – 1
1.1 (b) She is conducting preliminary engagement activities.
1.2 (b) Establishing overall audit strategy
1.3 (b) Planned inquiry and visit are planned risk assessment procedures and fall in field of
audit plan.
1.4 (c) Audit Programme
1.5 (b) She should modify earlier set of instructions.
Case Scenario - 2
2.1 (c) It is necessary that audit programme be suitably updated or notes are given in working
papers to this effect so that planned duties are in accordance with actual work

performance.
2.2 (c) Materiality arrived on basis of professional judgment along with factors considered in
the determination has to be documented.
2.3 (d) Precise calculation of risk of material misstatements has to be documented
2.4 (d) Reports showing that stocks conform to quality control standards in accordance with
law are essential part of audit documentation.
2.5 (d) Documentation to show that such transactions are at close length basis.
General MCQ’s
1. (d) Cash Credit Limit
2. (a) Audit against provision of funds
3. (d) AS 16 – Intangible Assets
4. (d) Computer Assisted Audit Technique
5. (a) Fraud Risk Factors
Descriptive Answers
1. (i) Incorrect: According to SA 315, the objective of the auditor is to identify and assess
the risk of material misstatement, whether due to fraud or error, at the financial
statement and assertion levels, through understanding the entity and its environment,
including the entity's internal control.
(ii) Incorrect: The control environment in itself does not prevent, or detect and correct,
a material misstatement. It may, however, influence the auditor’s evaluation of the
effectiveness of other controls (for example, the monitoring of controls and the
operation of specific control activities) and thereby, the auditor’s assessment of the
(iii) Incorrect: The audit procedure used by the auditor of XYZ Ltd. is known as
“observation”. Whereas inspection involves examining records or documents,
whether internal or external, in paper form, electronic form, or other media, or a
physical examination of an asset.
(iv) Incorrect: When inventory under the custody and control of a third party is material
to the financial statements, the auditor shall obtain sufficient appropriate audit
evidence regarding the existence and condition of that inventory by performing one
or both of the following:
(a) Request confirmation from the third party as to the quantities and condition of
inventory held on behalf of the entity.
(b) Perform inspection or other audit procedures appropriate in the circumstances.

(v) Incorrect: Assertions refer to representations by management, explicit or otherwise,

that are embodied in the financial statements, as used by the auditor to consider the
different types of potential misstatements that may occur.
(vi) Incorrect: As per SA-200 “Overall Objectives of the Independent Auditor”, in
conducting an audit of financial statements, the overall objectives of the auditor are:
(a) To obtain reasonable assurance about whether the financial statements as a
whole are free from material misstatement, whether due to fraud or error,
thereby enabling the auditor to express an opinion on whether the financial
statements are prepared, in all material respects, in accordance with an
applicable financial reporting framework; and
(vii) Correct: Once the overall audit strategy has been established, an audit plan can be
developed to address the various matters identified in the overall audit strategy,
taking into account the need to achieve the audit objectives through the efficient use
of the auditor’s resources. The establishment of the overall audit strategy and the
detailed audit plan are not necessarily discrete or sequential processes, but are
closely inter-related since changes in one may result in consequential changes to the
other.
(viii) Incorrect: Teeming and Lading is one of the techniques of suppressing cash receipts
and not of inflating cash payments. Money received from one customer is
misappropriated and the account is adjusted with the subsequent receipt from another
customer and so on.
2. (a) Professional integrity and independence are considered essential characteristics of
all the professions but are more so in the case of accountancy profession.
Independence implies that the judgement of a person is not subordinate to the wishes
or direction of another person who might have engaged him.
It is not possible to define “independence” precisely. Rules of professional conduct
dealing with independence are framed primarily with a certain objective. The rules
themselves cannot create or ensure the existence of independence. Independence is
a condition of mind as well as personal character. It should not be confused with the
superficial and visible standards of independence which are sometimes imposed by
law.
There are two interlinked perspectives of independence of auditors, one,
independence of mind; and two, independence in appearance. The Code of Ethics
for Professional Accountants issued by International Federation of Accountants
(IFAC) defines the term ‘Independence’ as follows:

“Independence is:
(i) Independence of mind – the state of mind that permits the provision of an
opinion without being affected by influences allowing an individual to act with
integrity, and exercise objectivity and professional skepticism; and
(ii) Independence in appearance – the avoidance of facts and circumstances that
are so significant that a third party would reasonably conclude an auditor’s
integrity, objectivity or professional skepticism had been compromised.”
Independence of the auditor has not only to exist in fact, but also appear to so
exist to all reasonable persons.
safeguards available to eliminate the threats.
The following are the guiding principles in this regard: -
1. For the public to have confidence in the quality of audit, it is essential that auditors
should always be and appears to be independent of the entities that they are auditing.
2. In the case of audit, the key fundamental principles are integrity, objectivity and
professional skepticism, which necessarily require the auditor to be independent.
3. Before taking on any work, an auditor must conscientiously consider whether it
involves threats to his independence.
4. When such threats exist, the auditor should either desist from the task or put in place
safeguards that eliminate them.
5. If the auditor is unable to fully implement credible and adequate safeguards, then he
must not accept the work.
3. (a) As per SA 220 “Quality Control for an Audit of Financial Statements”, the engagement
partner shall take responsibility for the overall quality on each audit engagement to
which that partner is assigned.
The actions of the engagement partner and appropriate messages to the other
each audit engagement, emphasise:
(1) The importance to audit quality of:
(i) Performing work that complies with professional standards and regulatory
and legal requirements;
(ii) Complying with the firm’s quality control policies and procedures as
applicable;
(iii) Issuing auditor’s reports that are appropriate in the circumstances; and
(iv) The engagement team’s ability to raise concerns without fear of reprisals;

and
(2) The fact that quality is essential in performing audit engagements.
(b) Audit is distinct from investigation. Investigation is a critical examination of the
accounts with a special purpose. For example, if fraud is suspected and it is
specifically called upon to check the accounts whether fraud really exists, it takes
character of investigation.
The objective of audit, on the other hand as we have already discussed, is to obtain
reasonable assurance about whether the financial statements as a whole are free
from material misstatement, whether due to fraud or error, thereby enabling the
auditor to express an opinion.
Therefore, audit is never started with a pre-conceived notion about state of affairs;
about wrong-doing; about some wrong having been committed. The auditor seeks to
report what he finds in normal course of examination of accounts.
However, it is quite possible that sometimes investigation results from the prima facie
findings of the auditor. It may happen that auditor has given some findings of serious
concern. Such findings may prompt for calling an investigation.
4. (a) The auditor should plan his work to enable him to conduct an effective audit in an
efficient and timely manner. Plans should be based on knowledge of the client’s
business.
Plans should be made to cover, among other things:
(i) acquiring knowledge of the client’s accounting systems, policies and internal
control procedures;
(ii) establishing the expected degree of reliance to be placed on internal control;
(iii) determining and programming the nature, timing, and extent of the audit
procedures to be performed; and
(iv) coordinating the work to be performed.
(b) Planning an audit involves establishing the overall audit strategy for the engagement
and developing an audit plan. Adequate planning benefits the audit of financial
statements in several ways, including the following:
(a) Helping the auditor to devote appropriate attention to important areas of the
audit.
(b) Helping the auditor identify and resolve potential problems on a timely basis.
(c) Helping the auditor properly organize and manage the audit engagement so that
it is performed in an effective and efficient manner.

(d) Assisting in the selection of engagement team members with appropriate levels
of capabilities and competence to respond to anticipated risks, and the proper
assignment of work to them.
(e) Facilitating the direction and supervision of engagement team members and the
review of their work.
(f) Assisting, where applicable, in coordination of work done by auditors of
components and experts.
5. In establishing the overall audit strategy, the auditor shall Identify the characteristics
of the engagement that define its scope.
For Example :
• The expected audit coverage, including the number and locations of components to
be included.
• The nature of the business segments to be audited, including the need for specialized
knowledge.
• The expected use of audit evidence obtained in previous audits, for example, audit
evidence related to risk assessment procedures and tests of controls.
administrative process of assembling the final audit file on a timely basis after the
date of the auditor’s report.
 SQC 1 “Quality Control for Firms that perform Audits and Review of Historical
Financial Information, and other Assurance and related services”, requires firms
to establish policies and procedures for the timely completion of the assembly
of audit files.
 An appropriate time limit within which to complete the assembly of the final audit
file is ordinarily not more than 60 days after the date of the auditor’s report. The
completion of the assembly of the final audit file after the date of the auditor’s
report is an administrative process that does not involve the performance of new
audit procedures or the drawing of new conclusions.
 Changes may, however, be made to the audit documentation during the final
• Deleting or discarding superseded documentation.
• Sorting, collating and cross-referencing working papers.
• Signing off on completion checklists relating to the file assembly process.

• Documenting audit evidence that the auditor has obtained, discussed and
agreed with the relevant members of the engagement team before the date
of the auditor’s report.
 After the assembly of the final audit file has been completed, the auditor shall
retention period.
 SQC 1 requires firms to establish policies and procedures for the retention of
(b) The following are the purposes of Audit documentation:
1. Assisting the engagement team to plan and perform the audit.
2. Assisting members of the engagement team to direct and supervise the audit
work, and to discharge their review responsibilities.
3. Enabling the engagement team to be accountable for its work.
4. Retaining a record of matters of continuing significance to future audits.
5. Enabling the conduct of quality control reviews and inspections in accordance
with SQC 1.
6. Enabling the conduct of external inspections in accordance with applicable legal,
regulatory or other requirements.
7. (a) If management does not provide one or more of the requested written
representations, the auditor shall:
(a) Discuss the matter with management;
(b) Re-evaluate the integrity of management and evaluate the effect that this may
have on the reliability of representations (oral or written) and audit evidence in
general; and
(c) Take appropriate actions, including determining the possible effect on the
opinion in the auditor’s report in accordance with SA 705.
(b) Auditor’s judgement as to sufficiency of audit evidence may be affected by the
factors such as:
(i) Materiality: It may be defined as the significance of classes of transactions,
account balances and presentation and disclosures to the users of the financial
statements. Less evidence would be required in case assertions are less
material to users of the financial statements. But on the other hand if assertions
are more material to the users of the financial statements, more evidence would
be required.

(ii) Risk of material misstatement: It may be defined as the risk that the financial
statements are materially misstated prior to audit. This consists of two
components described as follows at the assertion level:
• Inherent risk—The susceptibility of an assertion to a misstatement that
could be material before consideration of any related controls.
• Control risk—The risk that a misstatement that could occur in an assertion
that could be material will not be prevented or detected and corrected on a
timely basis by the entity’s internal control.
Less evidence would be required in case assertions that have a lower risk of
material misstatement. But on the other hand, if assertions have a higher risk of
material misstatement, more evidence would be required.
(iii) Size of a population: It refers to the number of items included in the population. Less
evidence would be required in case of smaller, more homogeneous population but on
the other hand in case of larger, more heterogeneous populations, more evidence
would be required.
8. In conducting an initial audit engagement, the objective of the auditor with respect to
opening balances is to obtain sufficient appropriate audit evidence about whether:
(a) Opening balances contain misstatements that materially affect the current period’s
financial statements; and
(b) Appropriate accounting policies reflected in the opening balances have been
consistently applied in the current period’s financial statements, or changes thereto
are properly accounted for and adequately presented and disclosed in accordance
with the applicable financial reporting framework.
9. (a) It has been suggested that actual operation of the internal control should be tested
by the application of procedural tests and examination in depth. Procedural tests
simply mean testing of the compliance with the procedures laid down by the
management in respect of initiation, authorisation, recording and documentation of
transaction at each stage through which it flows.
For example, the procedure for sales requires the following:
1. Before acceptance of any order the position of inventory of the relevant article
should be known to ascertain whether the order can be executed in time.
2. An advice under the authorisation of the sales manager should be sent to the
party placing the order, internal reference number, and the acceptance of the
order. This advice should be prepared on a standardised form and copy thereof
should be forwarded to inventory section to enable it to prepare for the execution
of the order in time.
3. The credit period allowed to the party should be the normal credit period. For

any special credit period a special authorisation of the sales manager would be
necessary.
4. The rate at which the order has been accepted and other terms about transport,
insurance, etc., should be clearly specified.
5. Before deciding upon the credit period, a reference should be made to the credit
section to know the creditworthiness of the party and particularly whether the
party has honoured its commitments in the past.
(b) Limitations of Internal Control:
(i) Internal control can provide only reasonable assurance: Internal control, no
matter how effective, can provide an entity with only reasonable assurance
about achieving the entity’s financial reporting objectives. The likelihood of their
achievement is affected by inherent limitations of internal control.
(ii) Human judgment in decision-making: Realities that human judgment in
decision-making can be faulty and that breakdowns in internal control can occur
because of human error.
(iii) Lack of understanding the purpose: Equally, the operation of a control may
not be effective, such as where information produced for the purposes of internal
control (for example, an exception report) is not effectively used because the
individual responsible for reviewing the information does not understand its
purpose or fails to take appropriate action.
(iv) Collusion among People: Additionally, controls can be circumvented by the
collusion of two or more people or inappropriate management override of
internal control. For example, management may enter into side agreements with
customers that alter the terms and conditions of the entity’s standard sales
contracts, which may result in improper revenue recognition. Also, edit checks
in a software program that are designed to identify and report transactions that
exceed specified credit limits may be overridden or disabled.
(v) Judgements by Management: Further, in designing and implementing
controls, management may make judgments on the nature and extent of the
controls it chooses to implement, and the nature and extent of the risks it
chooses to assume.
(vi) Limitations in case of Small Entities: Smaller entities often have fewer
employees due to which segregation of duties is not practicable. However, in a
small owner-managed entity, the owner-manager may be able to exercise more
effective oversight than in a larger entity. This oversight may compensate for the
generally more limited opportunities for segregation of duties.

On the other hand, the owner-manager may be more able to override controls
because the system of internal control is less structured. This is taken into account
by the auditor when identifying the risks of material misstatement due to fraud.
10. Division of Internal Control into Components: The division of internal control into the
following five components provides a useful framework for auditors to consider how
different aspects of an entity’s internal control may affect the audit:
(i) The control environment;
(ii) The entity’s risk assessment process;
(iii) Monitoring of controls.
(iv) Control activities; and
(v) The information system, including the related business processes, relevant to
financial reporting, and communication;
11. Manipulation of Accounts: Detection of manipulation of accounts with a view to
presenting a false state of affairs is a task requiring great tact and intelligence because
generally management personnel in higher management cadre are associated with this
type of fraud and this is perpetrated in methodical way. This type of fraud is generally
committed:
(a) to avoid incidence of income-tax or other taxes;
(b) for declaring a dividend when there are insufficient profits;
(c) to withhold declaration of dividend even when there is adequate profit (this is often
done to manipulate the value of shares in stock market to make it possible for selected
persons to acquire shares at a lower cost); and
(d) for receiving higher remuneration where managerial remuneration is payable by
reference to profits.
12. (1) Teeming and Lading: Amount received from a customer being misappropriated; also
to prevent its detection the money received from another customer subsequently
being credited to the account of the customer who has paid earlier. Similarly, moneys
received from the customer who has paid thereafter being credited to the account of
the second customer and such a practice is continued so that no one account is
outstanding for payment for any length of time, which may lead the management to
either send out a statement of account to him or communicate with him.
(2) Adjusting unauthorised or fictitious rebates, allowances, discounts, etc. to customer’
accounts and misappropriating amount paid by them.
(3) Writing off as debts in respect of such balances against which cash has already been
received but has been misappropriated.
(4) Not accounting for cash sales fully.

(5) Not accounting for miscellaneous receipts, e.g., sale of scrap, quarters allotted to the
employees, etc.
(6) Writing down asset values in entirety, selling them subsequently and misappropriating
the proceeds.
13. (i) CAATs: Computer Assisted Audit Techniques (CAATs), are a collection of computer-
based tools and techniques that are used in an audit for analysing data in electronic
form to obtain audit evidence.
(ii) Data Analytics: A combination of processes, tools and techniques that are used to
tap vast amounts of electronic data to obtain meaningful information.
(iii) Database: A logical subsystem within a larger information system where electronic
data is stored in a predefined form and retrieved for use.
(iv) Information Systems: Refers to a collection of electronic hardware, software,
networks and processes that are used in a business to carry out operations and
transactions.
(v) Privileged access: A type of super user access to information systems that enforces
less or no limits on using that system.
14. With the introduction of the Companies Act 2013, there is greater emphasis given to
internal financial controls (IFC) from a regulatory point of view. Directors and those
charged with governance (including Board of directors, Audit committee) are responsib le
for the implementation of internal controls framework within the company. The auditors’
responsibilities now include reporting on Internal Financial Controls over Financial
Reporting which include and understanding IT environment of the company and rele vant
risks & controls.
Following are some situations in which IT will be relevant to an audit :
(i) Increased use of Systems and Application software in Business (for example, use of
ERPs)
(ii) Complexity of transactions has increased (multiple systems, network of systems)
(iii) Hi-tech nature of business (Telecom, e-Commerce).
(iv) Volume of transactions are high (Insurance, Banking, Railways ticketing).
(v) Company Policy (Compliance).
(vi) Regulatory requirements - Companies Act 2013 IFC, IT Act 2008.
(vii) Required by Indian and International Standards - ISO, PCI-DSS, SA 315, SOC, ISAE
(viii) Increases efficiency and effectiveness of audit.

15. Random selection ensures that all items in the population or within each stratum have a
known chance of selection. It may involve use of random number tables. Random sampling
includes two very popular methods which are discussed below–
(i) Simple Random Sampling: Under this method each unit of the whole population e.g.
purchase or sales invoice has an equal chance of being selected. It is considered that
random number tables are simple and easy to use and also provide assurance that
the auditors’ bias does not affect the selection. Each item in a population is
selected by use of random number table either with a help of computer or
picking up a number in a random way (may be randomly from a drum). Today
random numbers are also generated using various applications on the cell phones
like the random number generator.
This method is considered appropriate provided the population to be sampled
consists of reasonably similar units and fall within a reasonable range i.e it is suitable
for a homogeneous population having a similar range.
(ii) Stratified Sampling: This method involves dividing the whole population to be tested
in a few separate groups called strata and taking a sample from each of them. Each
stratum is treated as if it was a separate population and if proportionate of items are
selected from each of these stratums. The number of groups into which the whole
population has to be divided is determined on the basis of auditor judgment.
16. Risk Factors while applying Sampling Techniques: As per SA 530 “Audit Sampling”,
sampling risk is the risk that the auditor’s conclusion based on a sample may be different
from the conclusion if the entire population were subjected to the same audit procedure.
Sampling risk can lead to two types of erroneous conclusions-
(i) In the case of a test of controls, that controls are more effective than they actually
are, or in the case of tests of details, that a material misstatement does not exists
when in fact it does. The auditor is primarily concerned with this type of erroneous
conclusion because it affects audit effectiveness and is more likely to lead to an
inappropriate audit opinion.
(ii) In the case of test of controls, the controls are less effective than they actually are,
or in the case of tests of details, that a material misstatements exists when in fact it
does not. This type of erroneous conclusion affects audit efficiency as it would
usually lead to additional work to establish that initial conclusions were incorrect.
relationships that are inconsistent with other relevant information or that differ from
expected values by a significant amount, the auditor shall investigate such differences by:
(i) Inquiring of management and obtaining appropriate audit evidence relevant to
management’s responses: Audit evidence relevant to management’s responses
may be obtained by evaluating those responses taking into account the auditor’s

understanding of the entity and its environment, and with other audit evidence
obtained during the course of the audit.
(ii) Performing other audit procedures as necessary in the circumstances: The need
to perform other audit procedures may arise when, for example, management is
unable to provide an explanation, or the explanation, together with the audit evidence
obtained relevant to management’s response, is not considered adequate.
18. While applying the Substantive Analytical Procedures, the statutory auditor of a company
may use the following techniques to obtain sufficient and appropriate audit evidence
Trend analysis – Trend analysis is a commonly used technique. It is the comparison of
current data with the prior period balance or with a trend in two or more prior period
balances. We evaluate whether the current balance of an account moves in line with the
trend established with previous balances for that account, or based on an understanding
of factors that may cause the account to change.
Ratio analysis – Ratio analysis is useful for analysing asset and liability accounts as well
as revenue and expense accounts. An individual balance sheet account is difficult to
predict on its own, but its relationship to another account is often more predictable (e.g.,
the trade receivables balance related to sales). Ratios can also be compared over time or
to the ratios of separate entities within the group, or with the ratios of other companies in
the same industry.
Reasonableness tests – Unlike trend analysis, this analytical procedure does not rely on
events of prior periods, but upon non-financial data for the audit period under consideration
(e.g., occupancy rates to estimate rental income or interest rates to estimate interest
income or expense). These tests are generally more applicable to income statement
accounts and certain accrual or prepayment accounts. In other words these tests are made
by reviewing the relationship of certain account balances to other balances for
reasonableness of amounts.
Structural modelling – A modelling tool constructs a statistical model from financial and/or
non-financial data of prior accounting periods to predict current account balances (e.g.,
linear regression).
The statutory auditor may use any of the above mentioned techniques while applying
substantive analytical procedures depending upon the availability of data and requirements
of the case.
19. While verifying the PPE of the client entity, the auditor also needs to consider whether the
PPE has been valued appropriately and as per the generally accepted accounting
principles and practices. The auditor should:
⚫ Verify that the entity has charged depreciation on all items of PPE unless any item of
PPE is non- depreciable like freehold land;

⚫ Assess that the depreciation method used reflects the pattern in which the asset’s
future economic benefits are expected to be consumed by the entity. It could be
Straight line method, diminishing value method, unit of production method, as
applicable.
⚫ The auditor should also verify whether the management has done an impairment
assessment to determine whether an item of property, plant and equipment is
impaired as per the requirements of AS 28 - Impairment of Assets.
20. (a) The following are the required disclosures for cash & Cash equivalents to be made
by the company as per Schedule III (Part I) to Companies Act, 2013:
Cash and cash equivalents
(i) Cash and cash equivalents shall be classified as:
(a) Balances with banks;
(b) Cheques, drafts on hand;
(c) Cash on hand;
(d) Others (specify nature)
(ii) Earmarked balances with banks (for example, for unpaid dividend) shall be
separately stated.
(iii) Balances with banks to the extent held as margin money or security against the
borrowings, guarantees, other commitments shall be disclosed separately.
(iv) Repatriation restrictions, if any, in respect of cash and bank balances shall be
separately stated.
(v) Bank deposits with more than 12 months’ maturity shall be disclosed separately.
(b) CA Saurabh should perform following analytical procedures to obtain audit
evidence as to overall reasonableness of purchase quantity and price:
(i) Consumption Analysis: He should scrutinize raw material consumed as per
manufacturing account and compare the same with previous years with closing
stock and ask for the reasons from the management if any significant variations
are found.
(ii) Stock Composition Analysis: He should collect the reports from management for
composition of stock i.e. raw materials as a percentage of total stock and
compare the same with previous year and ask for reasons from management in
case of significant variations.
(iii) Ratios: He should compare the creditors’ turnover ratios and stock turnover
ratios of the current year with previous years.
He should review quantitative reconciliation of closing stocks with opening stock,
purchases and consumption.

21. According to Section 140(1), the auditor appointed under section 139 may be removed
from his office before the expiry of his term only by a special resolution of the company,
after obtaining the previous approval of the Central Government in that behalf as per Rule
7 of CAAR, 2014-
(1) The application to the Central Government for removal of auditor shall be made in
Form ADT-2 and shall be accompanied with fees as provided for this purpose under
the Companies (Registration Offices and Fees) Rules, 2014.
(2) The application shall be made to the Central Government within 30 days of the
resolution passed by the Board.
(3) The company shall hold the general meeting within 60 days of receipt of approval of
the Central Government for passing the special resolution.
It is important to note that before taking any action for removal before expiry of terms, the
auditor concerned shall be given a reasonable opportunity of being heard.
In view of above, the procedure followed by the company for removal of its audit ors is not
correct.
22. As per rules prescribed in Companies (Audit and Auditors) Rules, 2014, for applicability of
section 139(2) the class of companies shall mean the following classes of companies
excluding one person companies and small companies-
(i) all unlisted public companies having paid up share capital of rupees ten crore or more;
(ii) all private limited companies having paid up share capital of rupees fifty crore or more;
(iii) all companies having paid up share capital of below threshold limit mentioned above,
but having public borrowings from financial institutions, banks or public deposits of
rupees fifty crores or more.
In the given case, S Private Limited is a private limited Company, having paid up share
capital of ` 49 crore but having borrowing from banks of ` 99 crore, provision of rotation
of auditor will be applicable on S Private Limited as borrowings from bank are exceeding
the prescribed limit of 50 crore rupees.
Further, as per section 139(2), appointment of audit firm can be made only for one term
of five consecutive years and then another one more term of five consecutive years. It can’t
be appointed for two terms in one AGM only.
S Private Limited, appointed M/s P & Company, a Chartered Accountant firm, as the
statutory auditor in its AGM for one term of six years. Here, the appointment of
M/s P & Company is not valid in accordance with section 139 (2) of the Companies
Act, 2013.

23. Audit committee performs wide functions. The recommendation for appointment of auditors
is only one of the several functions performed by audit committee. Under section 177 of
companies Act, 2013, audit committee is responsible for following actions :-
(i) the recommendation for appointment, remuneration and terms of appoin tment of
auditors of the company;]
(ii) review and monitor the auditor’s independence and performance, and effectiveness
of audit process;
(iii) examination of the financial statement and the auditors’ report thereon;
(iv) approval or any subsequent modification of transactions of the company with related
parties;
(v) scrutiny of inter-corporate loans and investments;
(vi) valuation of undertakings or assets of the company, wherever it is necessary;
(vii) evaluation of internal financial controls and risk management systems;
(viii) monitoring the end use of funds raised through public offers and related matters.
Hence, audit committee oversees range of matters including those related to making
recommendation for appointment of auditors etc.
24. Responsibilities of Management for the Financial Statements: The auditor’s report
shall include a section with a heading “Responsibilities of Management for the Financial
Statements.”
SA 200 explains the premise, relating to the responsibilities of management and, where
appropriate, those charged with governance, on which an audit in accordance with SAs is
conducted. Management and, where appropriate, those charged with governance accept
responsibility for the preparation of the financial statements. Management also accepts
responsibility for such internal control as it determines is necessary to enable the
preparation of financial statements that are free from material misstatement, whether due
to fraud or error. The description of management’s responsibilities in the auditor’s report
includes reference to both responsibilities as it helps to explain to users the premise on
which an audit is conducted.
This section of the auditor’s report shall describe management’s responsibility for:
(a) Preparing the financial statements in accordance with the applicable financial
reporting framework, and for such internal control as management determines is
necessary to enable the preparation of financial statements that are free from
material misstatement, whether due to fraud or error;[because of the possible effects
of fraud on other aspects of the audit, materiality does not apply to management’s
acknowledgement regarding its responsibility for the design, implementation, and
maintenance of internal control (or for establishing and maintaining effective internal
control over financial reporting) to prevent and detect fraud.] and

(b) Assessing the entity’s ability to continue as a going concern and whether the
use of the going concern basis of accounting is appropriate as well as disclosing, if
applicable, matters relating to going concern. The explanation of management’s
responsibility for this assessment shall include a description of when the use of the
going concern basis of accounting is appropriate.
become aware of possible bias in management’s judgements. The auditor may conclude
statements to be materially misstated. Indicators of a lack of neutrality include the
following:
(i) The selective correction of misstatements brought to management’s attention during
the audit.
Example
• Correcting misstatements with the effect of increasing reported earnings, but not
correcting misstatements that have the effect of decreasing reported earnings.
• The combination of several deficiencies affecting the same significant account
or disclosure (or the same internal control component) could amount to a
significant deficiency (or material weakness if required to be communicated in
the jurisdiction). This evaluation requires judgement and involvement of audit
executives.
(ii) Possible management bias in the making of accounting estimates.
26. Auditing the Operating Expenses of a Bank:-
(a) Internal Controls: The auditor should study and evaluate the system of internal
control relating to expenses, including authorization procedures in order to
determine the nature, timing and extent of his other audit procedures.
(b) Divergent Trends: The auditor should examine whether there are any divergent
trends in respect of major items of expenses.
(c) Substantive analytical Procedures: The auditor should perform substantive
analytical procedures in respect of these expenses. eg. assess the reasonableness
of expenses by working out their ratio to total operating expenses and comparing it
with the corresponding figures for previous years.
(d) Vouching & Verification: The auditor should also verify expenses with reference to
supporting documents and check the calculations wherever required.

27. An effective risk management system in a bank generally requires the following:
(i) Oversight and involvement in the control process by those charged with
governance: Those charged with governance (BOD/Chief Executive Officer) should
approve written risk management policies. The policies should be consistent with the
bank’s business objectives and strategies, capital strength, management expertise,
regulatory requirements and the types and amounts of risk it regards as acceptable.
(ii) Identification, measurement and monitoring of risks: Risks that could significantly
impact the achievement of bank’s goals should be identified, measured and monitored
against pre-approved limits and criteria.
(iii) Control activities: A bank should have appropriate controls to manage its risks,
including effective segregation of duties (particularly, between front and back offices),
accurate measurement and reporting of positions, verification and approval of
transactions, reconciliation of positions and results, setting of limits, reporting and
approval of exceptions, physical security and contingency planning.
(iv) Monitoring activities: Risk management models, methodologies and assumptions
used to measure and manage risk should be regularly assessed and updated. This
function may be conducted by the independent risk management unit.
(v) Reliable information systems: Banks require reliable information systems that
provide adequate financial, operational and compliance information on a timely and
consistent basis. Those charged with governance and management require risk
management information that is easily understood and that enables them to assess
the changing nature of the bank’s risk profile.
28. (a) Expenditure Audit: The audit of government expenditure is one of the major
components of government audit. The basic standards set for audit of expenditure
are to ensure that there is provision of funds authorized by competent authority fixing
the limits within which expenditure can be incurred. These standards are—
(i) that the expenditure incurred conforms to the relevant provisions of the statutory
enactment and in accordance with the Financial Rules and Regulations framed
by the competent authority. Such an audit is called as the audit against ‘rules
and orders’.
(ii) that there is sanction, either special or general, accorded by competent authority
authorising the expenditure. Such an audit is called as the audit of sanctions.
(iii) that there is a provision of funds out of which expenditure can be incurred and
the same has been authorised by competent authority. Such an audit is called
as audit against provision of funds.

(iv) that the expenditure is incurred with due regard to broad and general principles
of financial propriety. Such an audit is also called as propriety audit.
(v) that the various programmes, schemes and projects where large financial
expenditure has been incurred are being run economically and are yielding
results expected of them. Such an audit is termed as the performance audit.
(b) Objective of Audit of Local Bodies: The important objectives of audit of local
bodies are:
(a) reporting on the fairness of the content and presentation of financial statements;
(b) reporting upon the strengths and weaknesses of systems of financial control;
(c) reporting on the adherence to legal and/or administrative requirements;
(d) reporting upon whether value is being fully received on money spent; and
(e) detection and prevention of error, fraud and misuse of resources.

At Page 10- Topic “Shares issued at a discount” is revised and being given hereunder. Students
given below:

Chapter 10 – COMPANY AUDIT

Chapter 10 (Printed Copy) At Page 10.61- Topic “Punishment for non-compliance” is revised
and being given hereunder. Students are advised to study this topic from here and not from
printed copy of the study material.
Punishment for non-compliance - Section 147 of the Companies Act, 2013 prescribes
following punishments for contravention:
(2) If an auditor of a company contravenes any of the provisions of section 139, section 144
or section 145, the auditor shall be punishable with fine which shall not be less than twenty -
with fine which shall not be less than fifty thousand rupees but which may extend to twenty -
(3) Where an auditor has been convicted under sub-section (2), he shall be liable to: -
or colluded in an fraud by, or in relation to or by, the company or its d irectors or officers,

liable.
link given below:

Case Scenario - 1
SAM & Company, a Chartered Accountant firm, is in the process of finalising the audit of Health
is Wealth Limited which is a Company listed on the Bombay Stock Exchange. Health is Wealth
Limited has made its presence felt in over 10 countries, including India, making it a leader in the
global fitness industry. It runs a chain of fitness centres that offers energetic group workouts
and multiple workout formats to choose from. It also offers the best equipment, knowledgeable
staff and personal advice in a welcoming environment.
SAM & Company being a very reputed firm, was appointed for the statutory audit of Health is
Wealth Limited. The Engagement Partner CA A and her team of 8 members have conducted
the audit in an efficient and effective manner. The senior manager in the team, CA K is of the
opinion that they have obtained sufficient appropriate audit evidence, which concludes that
misstatements, individually or in the aggregate, are material, but not pervasive, to the financial
statements. One of the articled clerks, Mr. N, is a fresher and this audit is his first experience
as an auditor in a limited company. He is a sharp boy and has grasped all the concepts and
techniques very well. However, the term “pervasive” confused him so CA K patiently explained
to Mr. N the pervasive effects on the financial statements as per the auditor’s judgement . He
explained that - Pervasive effects on the financial statements are those that, in the auditor’s
judgement:
(i) Are not confined to specific elements, accounts or items of the financial statements;
(ii) If so confined, represent or could represent a substantial proportion of the financial
statements; or
(iii) In relation to disclosures, are fundamental to users’ understanding of the financial
statements.
(iv) Are confined to specific elements, accounts or items of the financial statements.
Mr. N understood the term well and thanked CA K for clearing all his doubts.

CA A disagreed with CA K that they have obtained sufficient appropriate audit evidence, which
concludes that misstatements, individually or in the aggregate, are material, but not pervasive,
to the financial statements. So, the entire team held various meetings and discussions, and
finally reached to a conclusion. They concluded that they have obtained reasonable assurance
that the financial statements as a whole are free from material misstatement, whether due to
fraud or error. That conclusion took into account:
(a) Whether sufficient appropriate audit evidence had been obtained.
(b) Whether uncorrected misstatements were material, individually or in aggregate.
(c) The evaluations.
The Auditor’s Report was prepared in writing and it was decided that an unmodified opinion
would be expressed. The first section of the auditor’s report included the auditor’s opinion and
had the heading “Opinion”. Following the Opinion section was a section with the heading “Basis
for Opinion”. When expressing an unmodified opinion on financial statements, the auditor’s
opinion used the following phrase,
“In our opinion, the accompanying financial statements give a true and fair view of […] in
accordance with [the applicable financial reporting framework].”
During the audit, the audit team had observed that there was uncertainty in Health is Wealth
Limited relating to the future outcome of a regulatory action. So, a paragraph was included in
the auditor’s report that referred to this matter which was appropriately disclosed in the financial
statements and that, in the auditor’s judgment, was of such importance that it was fundamental
to users’ understanding of the financial statements.
CA A also determined whether the financial statements included the co mparative information
required by the applicable financial reporting framework and whether such information was
appropriately classified. One team member, Mr R was curious to know whether the auditor’s
opinion referred to the corresponding figures or not, whenever the corresponding figures are
presented. CA A explained the circumstances to Mr R in which, when the corresponding figures
are presented, auditor’s opinion referred to the corresponding figures.
Based on the above information, answer the following questions:
1.1 CA K explained to Mr. N the pervasive effects on the financial statements in the auditor’s
judgement. Which of the following combination best answers as explained by CA K ?
(a) (i) and (ii)
(b) (ii) and (iii)
(c) (iii) and (iv)
(d) (i), (ii) and (iii)

1.2 When expressing an unmodified opinion on financial statements, SAM & Company used
the following phrase:
“In our opinion, the accompanying financial statements give a true and fair view of […] in
accordance with [the applicable financial reporting framework].”
Which is the other phrase which is regarded as being equivalent to the above phrase and
could also be used by SAM & Company?
(a) In our opinion, the accompanying financial statements give a true and correct view of
[…] in accordance with [the applicable financial reporting framework];
(b) In our opinion, the accompanying financial statements present correctly, in all material
respects, […] in accordance with [the applicable financial reporting framework];
(c) In our opinion, the accompanying financial statements present fairly, in all material
respects, […] in accordance with [the applicable financial reporting framework];
(d) In our opinion, the accompanying financial statements give a correct and fair view of
[…] in accordance with [the applicable financial reporting framework].
1.3 Which of the following statements is not included in the section with the heading “Basis for
Opinion” in the Auditor’s Report?
(a) Audit was conducted in accordance with the Accounting Standards.
(b) Auditor is independent of the entity in accordance with the relevant ethical
requirements relating to the audit and has fulfilled the auditor’s other ethical
responsibilities in accordance with these requirements.
(c) Description of the auditor’s responsibilities under the SAs.
(d) States whether the auditor believes that the audit evidence the auditor has obtained,
is sufficient and appropriate to provide a basis for the auditor’s opinion.
1.4 A paragraph was included in the Auditor’s Report of Health is Wealth Limited that referred
to a matter which was appropriately disclosed in the financial statements that, in the
auditor’s judgment, was of such importance that it was fundamental to users’
understanding of the financial statements. What is this section of the Auditor’s Report
called?
(a) Other Matters.
(b) Emphasis of Matters.
(c) Key Audit Matters.
(d) Auditor’s Responsibilities for the Audit of the Financial Statements.

1.5 CA A explained the circumstances to Mr. R in which, when the corresponding figures a re
presented, auditor’s opinion referred to the corresponding figures. Which of these
circumstances did he mention to Mr. R?
(a) If the auditor obtains audit evidence that a material misstatement exists in the prior
period financial statements on which a modified opinion has been previously issued.
(b) If the auditor’s report on the prior period, as previously issued, included a qualified
opinion, a disclaimer of opinion, or an adverse opinion and the matter which gave rise
to the modification is resolved.
(c) Prior Period Financial Statements are audited by another auditor.
(d) Prior Period Financial Statements not audited.
Case Scenario - 2
Bharat Bank, a nationalised bank, has branches all over India and has been the most popular
public sector bank in India for the past few years. The bank is governed by the Banking
Regulations Act, 1949 and the Central Statutory Auditors of the bank, ABC & Associates, were
appointed according to the provisions of the relevant enactments. The engagement partner
CA C commenced the audit with his team of seven members so that the audit is completed on
time and all the documents are submitted before the due date. The audit at all the branches also
started simultaneously and ABC & Associates was in constant touch with all the branc h auditors
to ensure timely completion of the audit.
As per the audit strategy and plan, CA Q along with Ms. R and Mr. P were assigned the audit of
the advances of Bharat Bank. Advances constituted the largest item on the asset s side of the
balance sheet of the bank. Since audit of advances is one of the most important areas covered
by auditors in a bank audit, it was assigned to CA Q since he was aware of the various functional
areas of the bank/branches, its processes, procedures, systems and prevailing internal controls
with regard to advances.
CA Q started with verifying whether the advances were classified as per RBI Prudential Norms.
There were five categories of advances which were available to CA Q for verification. They
were: Standard Regular, Sub Standard, Doubtful, Loss and Special Mention Accounts. An
ageing analysis was available for doubtful advances and Special Mention Accounts which was
examined in detail by CA Q.
Ms. R, on being instructed by CA Q, verified the securities offered by the borrowers for the bank
finance. For a particular customer named Aquabrass Pvt Ltd., the security was in the form of
delivery of goods by Aquabrass to Bharat Bank with the intention of creating a charge thereon
as security for the advance. The legal ownership of the goods remained with Aquabrass. In case
of another customer named Prism Works, there was a transfer of a life insurance policy in favour
of the bank as security. The bank had absolute right over the policy.Ms. R examined all the
relevant documents for the above two cases in detail. She continued with her examination of
other securities based on the sample selected by her.

While checking the classification of NPA, Mr. P came across a customer named Trustworthy
whose term loan instalment was overdue for 90 days at the year-end, but it was 100% secured
against the office building. The same was classified as a Substandard asset. There was another
customer named Super40, who had a cash credit account and a term loan with the bank.
Super40 had been paying the instalments on the term loan as well as the interest on the cash
credit account regularly and there was no overdue amount. Mr. P verified the drawing power of
Super40 and found it to be less than the sanctioned limit throughout the year. The outstanding
balance of Super40 during the whole year exceeded the drawing power but was less than the
sanctioned limit. Both the advances to Super40 were classified as Standard Advances since the
recoveries were regular and outstanding balance in the cash credit was less than the sanctioned
limit.
On examination of large advances, CA Q noticed that a customer named Stylish N Smart Private
Limited had one funded loan (term loan) and one non funded loan (bank guarantee) sanctioned
from the bank. CA Q checked in detail whether commission earned by the bank on the bank
guarantee was provided for on accrual basis.
CA Q along with Ms. R and Mr. P verified the advances in detail and also recommended a few
changes in the classification/provisions based on the examination of the sample selected by them.
2.1 What are the sub categories of the special mention accounts?
(a) SMA 0 (accounts showing stress signals), SMA 1 (Overdue between 31-60 days) and
SMA 2 (Overdue between 61-90 days)
(b) SMA 0 (accounts showing stress signals), SMA 1 (Overdue between 0-45 days) and
(c) SMA 0 (accounts not yet due for payment), SMA 1 (Overdue between 31 -60 days)
and SMA 2 (Overdue between 61-90 days)
(d) SMA 0 (accounts not yet due for payment), SMA 1 (Overdue between 0-45 days) and
2.2 Creation of security of Aquabrass Private Ltd. and Prism Works was in the form of:
(a) Mortgage and Hypothecation.
(b) Lien and Set-off.
(c) Hypothecation and Pledge.
(d) Pledge and Assignment.
2.3 In your opinion is Trustworthy a standard asset or a substandard asset?
(a) Though it is due for 90 days, it is 100% secured so it is a standard asset.
(b) Since it is due for 90 days, it is a substandard asset irrespective of the security.

(c) Since it is not due for more than 90 days, it is a standard asset irrespective of the
security.
(d) Since it is not due for more than 90 days and it is 100 % secured, it is a standard
asset.
2.4 Is Super40 correctly classified as a standard asset?
(a) Yes, since the recoveries in both term loan and cash credit were regular and
outstanding balance in the cash credit was less than the sanctioned limit.
(b) No, since the outstanding balance of the cash credit facility exceeded the drawing
power for more than 90 days, so both the advances, that is, the term loan and cash
credit facility will be classified as NPA.
(c) No, since the outstanding balance of the cash credit facility exceeded the drawing
power for more than 90 days, the cash credit facility will be classified as NPA and
term loan as standard.
(d) Yes, since the recoveries in both term loan and cash credit were regular, there is no
relevance of sanctioning power/drawing power.
2.5 Which among the following is a non- funded loan?
(a) Demand Loans
(b) Bills Discounted and Purchased
(c) Letter of Credit
(d) Participation on Risk Sharing basis
General MCQs
1. As per SA-210, preconditions for an audit do not include which of the following?
(a) Acceptability of financial reporting framework
(b) Responsibility of management regarding preparation of financial statements
(c) Making available records to the auditor
(d) Integrity of key management personnel
2. An auditor signs a false audit report knowingly. Which of the following fundamental
principles of professional ethics is violated in such a case?
(a) Objectivity
(b) Integrity
(c) Professional Competence and due care
(d) Professional behaviour

3. Which of the following statements is MOST APPROPRIATE?

(a) Audit programme is a detailed plan of audit strategy
(b) Audit programme cannot be reviewed
(c) Audit programme is a detailed plan of applying audit procedures
(d) Audit programme is relevant for year for which it is prepared, it is useless for
subsequent years.
4. A company is engaged in business of obtaining eggs from one day old chicks. Which of
the following is NOT an example of an event or condition that may cast significant doubt
on the ability of the company to continue as a going concern?
(a) Mortality of 90% of livestock of the company
(b) Decision by govt to ban commercial rearing of birds amidst protests by activi sts for
preventing cruelty to animals
(c) Shifting of farm labour to respective villages due to MGNREGA scheme of Govt
causing acute scarcity throughout the year
(d) Increase in cost of feed of chicks by 20% during the year
5. “Letters of credit” and “Foreign bills purchased and discounted” are examples of
respectively:
(a) Funded facility and non- funded facility
(b) Non-funded facility and funded facility
(c) Funded facility and funded facility
(d) Non-funded facility and Non-funded facility
(i) The level of sampling risk that the auditor is willing to accept will not affect the sample
size.
(ii) There is no difference between “audit” and “review.”
(iii) Negative assertions, encountered in the financial statements, may be expressed or
implied.
(iv) Development of an audit plan is important before the establishment of the overall
audit strategy to address the various matters.
(v) An unexplained decrease in GP Ratio may result due to fictitious sales.
(vi) An auditor has to report on the matters specified in section 143(1) of the Companies
Act, 2013.

(vii) There is an inverse relationship between detection risks and the combined level of
inherent and control risks.
(viii) For auditor’s opinion, reasonable assurance is an absolute level of assurance.
evidence. Explain giving examples. Also explain the difference between audit and
investigation.
(b) The auditor cannot be expected to disregard past experience of the honesty and
integrity of the entity’s management and those charged with governance.
Nevertheless, a belief that management and those charged with governance are
honest and have integrity does not relieve the auditor of the need to maintain
professional skepticism. Explain.
3. (a) The firm should establish policies and procedures designed to provide it with
reasonable assurance that it has sufficient personnel with the capabilities,
competence, and commitment to ethical principles. Explain stating clearly personnel
issues addressed by such policies and procedures.
(b) An auditor who, before the completion of the engagement, is requested to change the
engagement to one which provides a lower level of assurance, should consider the
appropriateness of doing so. Explain the circumstances which may contribute towards
a request from the client for the auditor to change the engagement.
4. (a) The nature, timing and extent of the direction and supervision of engagement team
members and review of their work vary depending on many factors. Discuss those
factors.
(b) Explain what do you mean by documentation of audit plan. Discuss the purpose
served by it and also elaborate the tools used by the auditor to reflect the particular
engagement circumstances.
5. While developing an audit programme, the auditor may conclude that relying on certain
internal controls is an effective and efficient way to conduct his audit. Explain stating
clearly the points to be kept in mind while developing an audit programme.
6. (a) CA R comes to know some very critical information with regards to the business cycle
of an entity for which he has issued the audit report, which become known to him as
an auditor after the date of the auditor’s report but which existed at that date and
which, if known at that date, might have caused the financial statements to be
amended or the auditor to modify the opinion in the auditor’s report. He wants to
perform additional audit procedures to satisfy himself. As an auditor what he shall

document, on the matters arising after the date of audit report?

(b) The auditor shall prepare audit documentation that is sufficient to enable an
experienced auditor to understand significant matters arising during the audit. Explain
the above statement and also give examples of significant matters.
7. (a) An auditor is called upon to assess the actualities of the situation, review the
statements of account and give an expert opinion about the truth and fairness of such
accounts. This he cannot do unless he has examined the financial statements
objectively. Explain.
(b) Manya Textiles is manufacturer of bed sheets, curtain cloths, other handloom items
etc. having its plant at Panipat. Auditors SJ & Co. is having doubts over the reliability
of information given to him as audit evidence. Also, auditors observed inconsistent
information while conducting audit. Guide the auditor as to how they should proceed
in the given situation.
8. External confirmation procedures frequently are relevant when addressing assertions
associated with account balances and their elements but need not be restricted to these
items. Apart from confirmations for bank balances and accounts receivables, what are the
other situations where external confirmation procedures may provide relevant audit
evidence in responding to assessed risks of material misstatement?
9. (a) Define Monitoring of Controls and in respect of monitoring of controls, answer the
following questions:
(i) How monitoring of controls would be helpful in assessing the effectiveness of
controls?
(ii) How can management accomplish monitoring of controls?
(iii) What is included in the Management’s monitoring activities?
(b) Explain the matters which should be included for factors relevant to the auditors'
judgement about whether a control is relevant to the audit.
10. The review of internal controls will enable the auditor to know the areas where control is
weak. Explain stating clearly the benefits of evaluation of internal control to the auditor.
11. Fraudulent financial reporting often involves management override of controls that
otherwise may appear to be operating effectively. Illustrate techniques by which fraud can
be committed by management overriding controls.
12. Write the examples of circumstances that indicate the possibility of fraud due to
problematic or unusual relationship between the auditor and management .


13. List the points that an auditor should consider to obtain an understanding of the Company's
automated environment.
14. Which are specific risks to the company's internal control having IT environment?
15. Explain the meaning of Audit Sampling as per the relevant standard on auditing. State the
requirements relating to audit sampling, sample design, sample size and selection of items
for testing.
16. This method is considered appropriate provided the population to be sampled consists of
reasonably similar units and fall within a reasonable range i.e. it is suitable for a
homogeneous population having a similar range. Explain about that method.
17. Explain the aspects to be considered by an auditor when designing and performing
substantive analytical procedures, either alone or in combination with test of details, as
substantive procedures in accordance with SA 330.
18. Discuss with examples the factors that are relevant when determining whether data is
reliable for purposes of designing substantive analytical procedures.
19. Name the assertions for the following audit procedures:
(i) Year end inventory verification.
(ii) Depreciation has been properly charged on all assets.
(iii) The title deeds of the lands disclosed in the Balance Sheet are held in the name of
the company.
(iv) All liabilities are properly recorded in the financial statements.
(v) Related party transactions are shown properly.
20. PK Pvt Ltd, based in Moradabad, is engaged in export of brassware goods. The company
has huge export receivables as on 31 st March 2022. It is also analysed from Export Sales
account of the company that large number of small shipments were almost despatched
daily during month of March 2022. List out few audit procedures you would adopt as an
auditor to verify completeness assertion of export trade receivables.
21. XYZ Limited is engaged in the business of Shoes having geographical presence across
India. Following details are available from the last audited financial statements of XYZ
Limited for the financial year 2020-21:

Particulars `
Paid-up Capital as on 31 st March, 2021 9.8 Crores
Turnover for Financial Year 2020-21 98 Crores
Outstanding Loan from Bank as on 31 st March, 2021 25 Crores
Liability on Outstanding Debentures as on 31 st March, 2021 26 Crores
Comment on the applicability of constitution of Audit Committee for XYZ Limited for the
financial year 2021-22 based on the above information.
22. S Private Limited has a paid-up share capital of ` 49 Crores and borrowings from bank of
` 99 Crores. The audit firm P & Company was appointed as statutory auditors of the
Company for one term of five consecutive years. Whether the provision of rotation of
auditors applicable to the company? Comment.
23. Enumerate the circumstances under which the retiring auditor can be re-appointed.
24. Mention the examples of circumstances where the auditor may consider it necessary to
include an Emphasis of Matter paragraph.
25. While drafting auditor’s report of LK Ltd., what are the matter to be included by auditor in
Opinion Section paragraph?
26. CA. Puranjay is appointed as statutory branch auditor of two branches of a nationalized
bank for year 2021-22. During the course of audit, he came across the following:
(a) While verifying advances of one semi-urban branch, he noticed substantial number
of accounts categorized as SMA (Special mention accounts). In this context, explain
the nature and significance of SMA.
(b) While verifying interest income of a mid-corporate branch of an urban centre having
advances consisting of only cash credit limits for large borrowers, it was noticed that
advances of ` 300 crores were outstanding as on balance sheet date carrying
average interest rate @8% p.a.
One articled clerk in audit team makes quick back of the envelope calculations of
interest income of ` 24 crores on advances. However, schedule of profit & loss a/c
shows interest income on advances for ` 10 crores. Discuss any two probable
reasons for such variation.
27. In carrying out audit of advances, the auditor is primarily concerned with obtaining evidence
about amounts included in balance sheet in respect of advances which are outstanding.
Explain stating clearly all the considerations in this context.


28. (a) You have been appointed as an auditor of ABC Hotel, a three star hotel, for Financial
Year 2021-22. As an auditor what are the special points that need to be considere d
in verifying the Inventories in the nature of food and beverages?
(b) Cinescreen Multiplex Ltd. is operating cinemas in different locations in Mumbai and
has appointed you as an internal auditor. What are the areas that need to be verified
in relation to receipts from sale of Tickets?
SUGGESTED ANSWERS

Question Answer
No.
1.1 (d) (i), (ii) and (iii)
1.2 (c) In our opinion, the accompanying financial statements present fairly, in
all material respects, […] in accordance with [the applicable financial
reporting framework];
1.3 (a) Audit was conducted in accordance with the Accounting Standards.
1.4 (b) Emphasis of Matters.
1.5 (d) Prior Period Financial Statements not audited.

Question Answer
No.
2.1 (a) SMA 0 (accounts showing stress signals), SMA 1 (Overdue between
31-60 days) and SMA 2 (Overdue between 61-90 days)
2.2 (d) Pledge and Assignment.
2.3 (c) Since it is not overdue for more than 90 days, it is a standard asset
irrespective of the security.
2.4 (b) No, since the outstanding balance of the cash credit facility exceeded
the drawing power for more than 90 days, so both the advances, that is,
the term loan and cash credit facility will be classified as NPA.
2.5 (c) Letter of Credit

Answer Key- General MCQ’s

1. (d)
2. (b)
3. (c)
4. (d)
5. (b)
Descriptive Answers
1. (i) Incorrect: As per SA 530, “Audit Sampling” the level of sampling risk that the auditor
is willing to accept affects the sample size required. The lower the risk the auditor is
willing to accept, the greater the sample size will need to be.
(ii) Incorrect: “Audit” and “Review” are two different terms. Audit is a reasonable
assurance engagement, and its objective is reduction in assurance engagement risk
to an acceptably low level in the circumstances of the engagement. However, “review”
is a limited assurance engagement, and its objective is a reduction in assurance
engagement risk to a level that is acceptable in the circumstances of the engagement
(iii) Correct: Negative assertions are also encountered in the financial statements and
the same may be expressed or implied. For example, if it is stated that there is no
contingent liability it would be an expressed negative assertion; on the other hand, if
in the balance sheet there is no item as “building”, it would be an implied negative
assertion that the entity did not own any building on the balance sheet date.
(iv) Incorrect: As per SA-300, “Planning an Audit of Financial Statements”, the auditor
shall establish an overall audit strategy that sets the scope, timing and direction of
the audit, and that guides the development of the audit plan. Once the overall audit
strategy has been established, an audit plan can be developed to address the various
matters identified in the overall audit strategy, taking into account the need to achieve
the audit objectives through the efficient use of the auditor’s resources.
(v) Incorrect: A fictitious sale will increase the GP Ratio, instead of decreasing it. GP
ratio normally comes down if there are unrecorded sales or reversal of fictitious sale
entries recorded in the previous year or fictitious purchase or decrease in closing
stock.
(vi) Incorrect: The auditor is not required to report on the matters specified in section
143(1) of the Companies Act, 2013 unless he has any special comments to make on
any of the items referred to therein. If he is satisfied as a result of the inquiries, he
has no further duty to report that he is so satisfied. However, the auditor should make
a report to the members in case he finds answer to any of these matters in adverse.
(vii) Correct: There is an inverse relationship between detection risks and the combined
level of inherent and control risks. For example, when inherent and control risks are

high. acceptable detection risks need to be low to reduce audit risk to an acceptably
low level. On the other hand, when inherent and control risks are low, an auditor can
accept a higher detection risks and still reduce audit risks to an acceptably low level.
(viii) Incorrect: Reasonable assurance is a high level but not an absolute level of
assurance, because there are inherent limitations of an audit which result in most of
the audit evidence on which the auditor draws conclusions and bases the auditor’s
opinion being persuasive rather than conclusive.
auditor.
We have to clearly understand that audit is distinct from investigation.
Investigation is a critical examination of the accounts with a special purpose. For
example, if fraud is suspected and it is specifically called upon to check the
accounts whether fraud really exists, it takes character of investigation.
The objective of audit, on the other hand as we have already discussed, is to
obtain reasonable assurance about whether the financial statements as a whole
are free from material misstatement, whether due to fraud or error, thereby
enabling the auditor to express an opinion.
Therefore, audit is never started with a pre-conceived notion about state of
affairs; about wrong-doing; about some wrong having been committed. The
auditor seeks to report what he finds in normal course of examination of
accounts. However, it is quite possible that sometimes investigation results from
the prima facie findings of the auditor. It may happen that auditor has given some
findings of serious concern. Such findings may prompt for calling an
investigation.

(b) The auditor shall plan and perform an audit with professional skepticism recognising
that circumstances may exist that cause the financial statements to be materially
misstated.
Professional skepticism includes being alert to, for example:
 Audit evidence that contradicts other audit evidence obtained.
 Information that brings into question the reliability of documents and responses
to inquiries to be used as audit evidence.
 Conditions that may indicate possible fraud.
 Circumstances that suggest the need for audit procedures in addition to those
required by the SAs.
 Maintaining professional skepticism throughout the audit is necessary if the
auditor is to reduce the risks of:
 Overlooking unusual circumstances.
 Over generalising when drawing conclusions from audit observations.
 Using inappropriate assumptions in determining the nature, timing, and extent
of the audit procedures and evaluating the results thereof.
Professional skepticism is necessary to the critical assessment of audit evidence. It
also includes consideration of the sufficiency and appropriateness of audit evidence
obtained in the light of the circumstances, for example in the case where fraud risk
factors exist and a single document, of a nature that is susceptible to fraud, is the
sole supporting evidence for a material financial statement amount.
The auditor may accept records and documents as genuine unless the auditor has
reason to believe the contrary. Nevertheless, the auditor is required to consider t he
reliability of information to be used as audit evidence. In cases of doubt about the
reliability of information or indications of possible fraud, the SAs require that the
auditor investigate further and determine what modifications or additions to audit
procedures are necessary to resolve the matter.
The auditor cannot be expected to disregard past experience of the honesty and
integrity of the entity’s management and those charged with governance.
Nevertheless, a belief that management and those charged with governance are
honest and have integrity does not relieve the auditor of the need to maintain
professional skepticism.
3. (a) The firm should establish policies and procedures designed to provide it with
reasonable assurance that it has sufficient personnel with the capabilities,
competence, and commitment to ethical principles necessary to perform its
engagements in accordance with professional standards and regulatory and legal

requirements, and to enable the firm or engagement partners to issue report s that are
appropriate in the circumstances.
Such policies and procedures address the following personnel issues:
(a) Recruitment.
(b) Performance evaluation.
(c) Capabilities.
(d) Competence.
(e) Career development.
(f) Promotion;
(g) Compensation; and
(h) Estimation of personnel needs.
(b) An auditor who, before the completion of the engagement, is requested to change the
engagement to one which provides a lower level of assurance, should consider the
appropriateness of doing so.
A request from the client for the auditor to change the engagement may result from -
1. a change in circumstances affecting the need for the service,
2. a misunderstanding as to the nature of an audit or related service originally
requested.
3. a restriction on the scope of the engagement, whether imposed by management
or caused by circumstances.
members and review of their work vary depending on many factors, including:
➢ The size and complexity of the entity.
➢ The area of the audit.
➢ The assessed risks of material misstatement (for example, an increase in the
assessed risk of material misstatement for a given area of the audit ordinarily
requires a corresponding increase in the extent and timeliness of direction and
supervision of engagement team members, and a more detailed review of their
work).
➢ The capabilities and competence of the individual team members performing the
audit work.

(b) The documentation of the audit plan is a record of the planned nature, timing and
extent of risk assessment procedures and further audit procedures at the assertion
level in response to the assessed risks.
It also serves as a record of the proper planning of the audit procedures that can be
reviewed and approved prior to their performance.
The auditor may use standard audit programs and/or audit completion checklists,
tailored as needed to reflect the particular engagement circumstances.
5. While developing an audit programme, the auditor may conclude that relying on certain
internal controls is an effective and efficient way to conduct his audit. However, the auditor
may decide not to rely on internal controls when there are other more e fficient ways of
obtaining sufficient appropriate audit evidence. The auditor should also consider the timing
of the procedures, the coordination of any assistance expected from the client, the
availability of assistants, and the involvement of other auditors or experts.
For the purpose of programme construction, the following points should be kept in mind:
(1) Stay within the scope and limitation of the assignment.
(2) Prepare a written audit programme setting forth the procedures that are needed to
implement the audit plan.
(3) Determine the evidence reasonably available and identify the best evidence for
deriving the necessary satisfaction.
(4) Apply only those steps and procedures which are useful in accomplishing the
verification purpose in the specific situation.
(5) Include the audit objectives for each area and sufficient details which serve as a set
of instructions for the assistants involved in audit and help in controlling the proper
execution of the work.
(6) Consider all possibilities of error.
(7) Co-ordinate the procedures to be applied to related items.
6. (a) As per SA 230, “Audit Documentation”, if, in exceptional circumstanc es, the auditor
performs new or additional audit procedures or draws new conclusions after the date
of the auditor’s report, the auditor shall document:
(i) The circumstances encountered;
(ii) The new or additional audit procedures performed, audit evidence obtained, and
conclusions reached, and their effect on the auditor’s report; and
(iii) When and by whom the resulting changes to audit documentation were made
and reviewed.

(b) The auditor shall prepare audit documentation that is sufficient to enable an
experienced auditor, having no previous connection with the audit, to understand
significant matters arising during the audit, the conclusions reached thereon, and
significant professional judgments made in reaching those conclusions.
Judging the significance of a matter requires an objective analysis of the facts and
circumstances. Examples of significant matters include:
 Matters that give rise to significant risks.
 Results of audit procedures indicating (a) that the financial statements could be
materially misstated, or (b) a need to revise the auditor’s previous assessment
of the risks of material misstatement and the auditor’s responses to those risks.
 Circumstances that cause the auditor significant difficulty in applying necessary
audit procedures.
 Findings that could result in a modification to the audit opinion or the inclusion
of an Emphasis of Matter paragraph in the auditor’s report.
7. (a) Auditing is a logical process. An auditor is called upon to assess the actualities of the
situation, review the statements of account and give an expert opinion about the truth
and fairness of such accounts. This he cannot do unless he has examined the
financial statements objectively.
Objective examination connotes critical examination and scrutiny of the accounting
statements of the undertaking with a view to assessing how far the statements present
the actual state of affairs in the correct context and whether they give a true and fair
view about the financial results and state of affairs. An opinion founded on a rather
reckless and negligent examination and evaluation may expose the auditor to legal
action with consequential loss of professional standing and prestige.
He needs evidence to obtain information for arriving at his judgement.
SA 500 – “Audit Evidence”, explains what constitutes audit evidence in an audit of
financial statements, and deals with the auditor’s responsibility to design and perform
audit procedures to obtain sufficient appropriate audit evidence to be able to draw
reasonable conclusions on which to base the auditor’s opinion.
(b) If:
(a) audit evidence obtained from one source is inconsistent with that obtained from
another; or
(b) the auditor has doubts over the reliability of information to be used as audit
evidence,
the auditor shall determine what modifications or additions to audit procedures are
necessary to resolve the matter, and shall consider the effect of the matter, if any, on
other aspects of the audit.

8. Other examples of situations where external confirmations may be used include the
following:
 Inventories held by third parties at bonded warehouses for processing or on
consignment
 Property title deeds held by lawyers or financiers for safe custody or as security
 Investments held for safekeeping by third parties, or purchases from stockbrokers but
not delivered at the balance sheet date
 Amounts due to lenders, including relevant terms of repayment and restrictive
covenants.
 Accounts payable balances and terms
 Long outstanding share application money.
9. (a) Monitoring of controls Defined: Monitoring of controls is a process to assess the
effectiveness of internal control performance over time.
(i) Helps in assessing the effectiveness of controls on a timely basis: It
involves assessing the effectiveness of controls on a timely basis and taking
necessary remedial actions.
(ii) Management accomplishes through ongoing activities, separate
evaluations etc.: Management accomplishes monitoring of controls through
ongoing activities, separate evaluations, or a combination of the two. Ongoing
monitoring activities are often built into the normal recurring activities of an entity
and include regular management and supervisory activities.
(iii) Management’s monitoring activities include: Management’s monitoring
activities may include using information from communications from external
parties such as customer complaints and regulator comments that may indicate
problems or highlight areas in need of improvement.
(b) Controls Relevant to the Audit: Factors relevant to the auditor’s judgment about
whether a control, individually or in combination with others, is relevant to the audit
may include such matters as the following:
(i) Materiality.
(ii) The significance of the related risk.
(iii) The size of the entity.
(iv) The nature of the entity’s business, including its organisation and ownership
characteristics.
(v) The diversity and complexity of the entity’s operations.
(vi) Applicable legal and regulatory requirements.

(vii) The circumstances and the applicable component of internal control.

(viii) The nature and complexity of the systems that are part of the entity’s internal
control, including the use of service organisations.
(ix) Whether, and how, a specific control, individually or in combination with others,
prevents, or detects and corrects, material misstatement.
10. Benefits of Evaluation of Internal Control to the Auditor
The review of internal controls will enable the auditor to know:
(i) whether errors and frauds are likely to be located in the ordinary course of operations
of the business;
(ii) whether an adequate internal control system is in use and operating as planned by
the management;
(iii) whether an effective internal auditing department is operating;
(iv) whether any administrative control has a bearing on his work (for example, if the
control over worker recruitment and enrolment is weak, there is a likelihood of dummy
names being included in the wages sheet and this is relevant for the auditor);
(v) whether the controls adequately safeguard the assets;
(vi) how far and how adequately the management is discharging its function in so far as
correct recording of transactions is concerned;
(vii) how reliable the reports, records and the certificates to the management can be;
(viii) the extent and the depth of the examination that he needs to carry out in the di fferent
areas of accounting;
(ix) what would be appropriate audit technique and the audit procedure in the given
circumstances;
(x) what are the areas where control is weak and where it is excessive; and
(xi) whether some worthwhile suggestions can be given to improve the control system.
11. Techniques of frauds committed by Management: Fraudulent financial reporting often
involves management override of controls that otherwise may appear to be operating
effectively. Fraud can be committed by management overriding controls using such
techniques as:
(1) Recording fictitious journal entries, particularly close to the end of an account ing
period, to manipulate operating results or achieve other objectives
(2) Inappropriately adjusting assumptions and changing judgments used to estimate
account balances
(3) Omitting, advancing or delaying recognition in the financial statements of events and
transactions that have occurred during the reporting period

(4) Concealing, or not disclosing, facts that could affect the amounts recorded in the
financial statements
(5) Engaging in complex transactions that are structured to misrepresent the financ ial
position or financial performance of the entity
(6) Altering records and terms related to significant and unusual transactions.
12. Examples of circumstances that indicate the possibility of fraud due to problematic
or unusual relationship between the auditor and management are:
1. Denial of access to records, facilities, certain employees, customers, vendors, or
others from whom audit evidence might be sought.
2. Undue time pressures imposed by management to resolve complex or contentious
issues.
3. Complaints by management about the conduct of the audit or management
intimidation of engagement team members, particularly in connection with the
auditor’s critical assessment of audit evidence or in the resolution of potential
disagreements with management.
4. Unusual delays by the entity in providing requested information.
5. Unwillingness to facilitate auditor access to key electronic files for testing through the
use of computer-assisted audit techniques.
6. Denial of access to key IT operations staff and facilities, including security, operations,
and systems development personnel.
7. An unwillingness to add or revise disclosures in the financial statements to make them
more complete and understandable.
8. An unwillingness to address identified deficiencies in internal control on a timely
basis.
9. Unwillingness by management to permit the auditor to meet privately with those
charged with governance
10. Accounting Policy that appears to be variance with industry norms
11. Frequent changes in accounting estimates that do not appear to result from changed
circumstances
12. Tolerance of variations in the entity’s code of conduct
13. Understanding of the Company’s Automated Environment: Given below are some of
the points that an auditor should consider to obtain an understanding of the company’s
automated environment
• Information systems being used (one or more application systems and what they are)
• their purpose (financial and non-financial)
• Location of IT systems - local vs global

• Architecture (desktop based, client-server, web application, cloud based)

• Version (functions and risks could vary in different versions of same application)
• Interfaces within systems (in case multiple systems exist)
• In-house vs Packaged
• Outsourced activities (IT maintenance and support)
• Key persons (CIO, CISO, Administrators)
14. IT poses specific risks to the Company’s internal control, which include-
(i) Reliance on systems or programs that are inaccurately processing data, processing
inaccurate data, or both.
(ii) Unauthorised access to data that may result in destruction of data or improper
changes to data, including the recording of unauthorised or nonexistent transactions,
or inaccurate recording of transactions. Particular risks may arise where multiple
users access a common database.
(iii) The possibility of IT personnel gaining access privileges beyond those necessary to
perform their assigned duties thereby breaking down segregation of duties.
(iv) Unauthorised changes to data in master files.
(v) Unauthorised changes to systems or programs.
(vi) Failure to make necessary changes to systems or programs. Inappropriate manual
intervention.
(vii) Potential loss of data or inability to access data as required.
15. Audit Sampling: As per SA 530 on “Audit Sampling”, the meaning of the term Audit
Sampling is – the application of audit procedures to less than 100% of items within a
population of audit relevance such that all sampling units have a chance of selection in
order to provide the auditor with a reasonable basis on which to draw conclusions about
the entire population.
The requirements relating to sample design, sample size and selection of items for testing
are explained below-
▪ Sample design - When designing an audit sample, the auditor shall consider the
purpose of the audit procedure and the characteristics of the population from which
the sample will be drawn.
▪ Sample Size - The auditor shall determine a sample size sufficient to reduce sampling
risk to an acceptably low level.
▪ Selection of Items for Testing - The auditor shall select items for the sample in such
a way that each sampling unit in the population has a chance of selection.

16. Simple Random Sampling: Under this method each unit of the whole population e.g.
purchase or sales invoice has an equal chance of being selected. It is considered that
random number tables are simple and easy to use and also provide assurance that the
auditors’ bias does not affect the selection. Each item in a population is selected by use
of random number table either with a help of computer or picking up a number in a random
way (may be randomly from a drum). Today random numbers are also generated using
various applications on the cellphones like the random number generator.
This method is considered appropriate provided the population to be sampled consists of
reasonably similar units and fall within a reasonable range i.e. it is suitable for a
homogeneous population having a similar range.
17. Analytical procedures used as substantive tests: When designing and performing
substantive analytical procedures, either alone or in combination with test of details as,
substantive procedures in accordance with SA 330, the auditor shall:
(i) Determine the suitability of particular substantive analytical procedures for given
assertions, taking account of the assessed risks of material misstatement and test of
details, if any, for these assertions.
(ii) Evaluate the reliability of data from which the auditor's expectation of recorded
amounts or ratios is developed, taking account of source, comparability, and nature
and relevance of information available, and controls over preparation.
(iii) Develop an expectation of recorded amounts or ratios and evaluate whether the
expectation is sufficiently precise to identify a misstatement that, individually or when
aggregated with other misstatements, may cause the financial statements to be
materially misstated.
(iv) Determine the amount of any difference of recorded amounts from expected values
that is acceptable without further investigation.
18. The reliability of data is influenced by its source and nature and is dependent on the
circumstances under which it is obtained. Accordingly, the following are relevant when
determining whether data is reliable for purposes of designing substantive analytical
procedures:
(i) Source of the information available. For example, information may be more reliable
when it is obtained from independent sources outside the entity;
(ii) Comparability of the information available. For example, broad industry data may
need to be supplemented to be comparable to that of an entity that produces and
sells specialised products;
(iii) Nature and relevance of the information available. For example, whether budgets
have been established as results to be expected rather than as goals to be achieved;
and

(iv) Controls over the preparation of the information that are designed to ensure its
completeness, accuracy and validity. For example, controls over the preparation,
review and maintenance of budgets.
19. (i) Year-end inventory verification: Existence Assertion.
(ii) Depreciation has been properly charged on all assets: Valuation Assertion.
(iii) Title deed of lands disclosed in the Balance Sheet are held in the name of the
Company: Rights & Obligations Assertion.
(iv) All liabilities are properly recorded in the financial statements: Completenes s.
(v) Related party transactions are shown properly: Presentation & Disclosure.
20. Completeness assertion in respect of account balances means that all balances which
should have been recorded have been recorded. The auditor needs to satisfy himself about
cut off so that there is no understatement or overstatement in account balances of export
receivables.
In this context, while verifying completeness assertion of export trade receivables,
following audit procedures are required: -
(1) Check that in respect of invoices raised in last few days nearing the cut off date,
goods have been actually dispatched and not lying with the company.
(2) Check stock records, e-way bill, and transporter receipt regarding actual movement
of goods. It would provide assurance that export invoices in respect of which revenue
was booked have been actually moved out of company’s premises.
(3) Ensure that all goods invoiced prior to cut off date/year end have been included in
export receivables on test check basis.
(4) Ensure that no goods despatched after year end have been included in export
receivables by tracing entries in export sales, stock records of next year. The same
can be verified from e-way bills also.
(5) Match invoices to despatch/shipping details. Further match invoices dates to
despatch dates to see if sales are being recorded in correct accounting period.
(6) Test invoices in receivable report. Select invoices from ageing report of export
receivables and compare them with supporting documentation to ensure that these
are billed with correct names, dates and amounts.
21. Applicability of Constitution of Audit Committee: According to Section 177 of the
Companies Act, 2013, in addition to listed public companies, following classes of
companies shall constitute and Audit Committee -
(i) All public companies with a paid-up capital of ten crore rupees or more;
(ii) All public companies having turnover of one hundred crore rupees or more;

(iii) All public companies, having in aggregate, outstanding loans or borrowings o r

debentures or deposits exceeding fifty crore rupees or more.
Explanation - The paid-up share capital or turnover or outstanding loans or
borrowings or debentures or deposits, as the case may be, as existing on the date of
last audited Financial Statements shall be taken into account for the purposes of this
rule.
Therefore, provisions of constitution of audit committee are applicable only to listed
companies and public companies satisfying criteria as stated above.
In the given case, XYZ Limited, engaged in the business of Shoes, is a public company
and it’s having paid-up capital of 9.8 crore rupees and turnover of 98 crore which is less
than prescribed limit (i.e., 10 crores for paid-up capital and 100 crores for turnover).
However, aggregate of its outstanding loan from bank (25 crores) and liability on
outstanding debentures (26 crore) is exceeding the prescribed limit i.e., 50 crore rupees.
Therefore, provisions relating to constitution of Audit Committee will be applicable for XYZ
Limited.
22. As per rules prescribed in Companies (Audit and Auditors) Rules, 2014, for applicability of
section 139(2) the class of companies shall mean the following classes of companies
excluding one person companies and small companies-
(i) all unlisted public companies having paid up share capital of rupees ten crore or more;
(ii) all private limited companies having paid up share capital of rupees fifty crore or more;
(iii) all companies having paid up share capital of below threshold limit mentioned above,
but having public borrowings from financial institutions, banks or public deposits of
rupees fifty crores or more.
In the given case, S Private Limited is a private limited Company, having paid up share
capital of ` 49 crore but having borrowing from banks of ` 99 crore, provision of rotation
of auditor will be applicable on S Private Limited as borrowings from bank are exceeding
the prescribed limit of 50 crore rupees.
Further, as per section 139(2), appointment of audit firm can be made only for one term
of five consecutive years and then another one more term of five consecutive years .
S Private Limited, appointed M/s P & Company, a Chartered Accountant firm, as the
statutory auditor in its AGM for one term of five years. Here, the appointment of
M/s P & Company is valid in accordance with section139(2) of the Companies Act, 2013.
23. Re-appointment of auditor: A retiring auditor may be re-appointed at an annual general
meeting, if-
(i) he is not disqualified for re-appointment.
(ii) he has not given the company a notice in writing of his unwillingness to be re -
appointed; and

(iii) a special resolution has not been passed at that meeting appointing some other
auditor or providing expressly that he shall not be re-appointed.
(iv) Where at any annual general meeting, no auditor is appointed or re-appointed, the
existing auditor shall continue to be the auditor of the company.
24. Examples of circumstances to include Emphasis of Matter Paragraph: As per SA 706
(Revised) on “Emphasis of Matter Paragraphs and Other Matter Paragraphs In The
Independent Auditor’s Report”, the examples of circumstances where the auditor may
consider it necessary to include an Emphasis of Matter paragraph are;
(a) An uncertainty relating to the future outcome of an exceptional litigation or regulatory
action.
(b) A significant subsequent event that occurs between the date of the financial
statements and the date of the auditor’s report.
(c) Early application (where permitted) of a new accounting standard that has a material
effect on the financial statements.
(d) A major catastrophe that has had, or continues to have, a significant effect on the
entity's financial position.
25. The first section of the auditor’s report shall include the auditor’s opinion, and shall
have the heading “Opinion”.
Opinion Section of the Auditor’s report shall also:
(i) Identify the entity whose financial statements have been audited;
(ii) State that the financial statements have been audited;
(iii) Identify the title of each statement that comprises the financial statements;
(iv) Refer to the summary of significant accounting policies and other explanatory
information; and
(v) Specify the date or period covered by each financial statement comprising the
financial statements.
26. (a) Special Mention accounts (SMA) are those accounts which are resul ting signs of
incipient stress leading to the possibility that borrowers may default on debt
obligations. These are in the nature of warning system to alert the banks about
probable NPAs so that remedial action can be taken before accounts actually turn
NPAs. Therefore, their significance lies in the fact that proper and timely identification
of SMAs can help in preventing turning potential NPAs into actual NPAs.
(b) The probable reasons for difference in interest calculation could be due to following:
(i) Cash credit accounts, by their very nature, are running accounts and their
utilization depends upon needs of business. Further, interest on cash credit
account is charged on the extent of funds utilized by the borrower. It could be

possible that all cash credit limits were not fully utilized during the year which
resulted in lower interest income.
(ii) Some large accounts may have been sanctioned during later part of the year
resulting in lower interest income on advances for whole year.
27. Advances generally constitute the major part of the assets of the bank. There are large
number of borrowers to whom variety of advances are granted. The audit of advances
requires the major attention from the auditors.
In carrying out audit of advances, the auditor is primarily concerned with obtaining
evidence about the following:
(a) Amounts included in balance sheet in respect of advances which are outstanding at
(b) Advances represent amount due to the bank.
(c) Amounts due to the bank are appropriately supported by loan documents and other
(d) There are no unrecorded advances.
(e) The stated basis of valuation of advances is appropriate and properly applied and the
recoverability of advances is recognised in their valuation.
(f) The advances are disclosed, classified and described in accordance with recognised
(g) Appropriate provisions towards advances have been made as per the RBI norms,
28. (a) Verification of inventories in the nature of food and beverages: The inventories
in any hotel are both readily portable and saleable particularly the food and beverage
inventories. It is therefore extremely important that all movements and transfers of
such inventories should be properly documented to enable control to be exercised
over each individual stores’ areas and sales point. The auditor should carry out tests
to ensure that all such documentation is accurately processed. Therefore, following
points may be noted in this regard:
(a) All movement and transfer of inventories must be properly documented.
(b) Areas where inventories are kept must be kept locked and the key retained by
the departmental manager.
(c) The key should be released only to trusted personnel and unauthorized persons
should not be permitted in the stores area.
(d) Many hotels use specialized professional valuers to count and value the
inventories on a continuous basis throughout the year.

(e) The auditor should ensure that all inventories are valued at the year end and
that he should himself be present at the year-end physical verification, to the
extent practicable, having regard to materiality consideration and nature and
location of inventories.
(b) Audit of Cinema: The special steps involved in the audit of receipts from sale of
tickets are stated below-
(i) Verify that entrance to the cinema-hall during show is only through printed
tickets;
(ii) Verify that they are serially numbered and bound into books;
(iii) Verify that the number of tickets issued for each show and class, are different
though the numbers of the same class for the show on the same day, each week,
run serially;
(iv) Verify that for advance booking a separate series of tickets is issued;
(v) Verify that the inventory of tickets is kept in the custody of a responsible official.
(vi) Confirm that at the end of show, a statement of tickets sold is prepared and cash
collected is agreed with it.
(vii) Verify that a record is kept of the ‘free passes’ and that these are issued under
proper authority.
(viii) Reconcile the amount of Entertainment Tax collected with the total number of
tickets issued for each class.
(ix) Vouch the entries in the Cash Book in respect of cash collected on sale of tickets
for different shows on a reference to Daily Statements which have been test
checked as aforementioned with record of tickets issued for the different shows
held.

In Chapter 9 of the Printed Copy, the topic at Page number 10 - “Shares issued at a
discount” is revised and being given hereunder. Students are advised to study this topic
from here and not from printed copy of the study material.
This topic has also been revised at page no. 10 of chapter 9 and students can refer at the
link given below:


Case Scenario - 1
SaveLives Limited is a listed Company which deals in the manufacture of Sanitizers, floor
cleaners, dish and fabric cleaners etc. In spite of spread of covid 19 in the country, the
company’s sales have been very high in the last financial year due to essential products it deals
in. The Company is highly automated and is driven by IT systems and applications that are used
in the preparation of the financial statements of the Company. The Company uses an integrated
enterprise resource planning system since last five years.
KRAN & Associates has been appointed to conduct the statutory audit of the Company. The
firm consists of eight partners, and CA N has been appointed as engagement partner for the
audit of SaveLives Limited.
CA N briefed the team about the audit and also how IT would be relevant to the audit of
SaveLives Limited. The team obtained an understanding of the entity and its aut omated
environment which involved an understanding of how the IT department was organised, IT
activities, IT dependence and the relevant risks and controls.
One of the team members wanted to understand the importance of different types of controls in
an automated environment viz., General IT Controls, Application Controls and IT - Dependent
Controls. Same was discussed in detail along with the relationship between different controls.
The Companies Act, 2013 has placed a greater emphasis on the effective impl ementation and
reporting on the internal controls for a company. So, CA N decided to himself evaluate and
validate the design and operating effectiveness of Internal Financial Controls over Financial
Reporting (IFC-FR) of the company as at the Balance Sheet date. Internal Financial Controls
(IFC) refers to the policies and procedures put in place by SaveLives Limited for ensuring
adequacy and also the operating effectiveness of such controls.
The audit team decided to use the tools and techniques that auditors use in applying the
principles of data analytics which are known as CAATs. Data analytics could also be used in
testing of electronic records and data residing in IT systems using spreadsheets and specialised
audit tools viz., IDEA and ACL to perform various functions.
1.1 Under which situation is IT not relevant to an audit?
(a) Increased complexity of transactions
(b) Hi-tech nature of business
(c) Volume of transactions is low
(d) Company Policy (Compliance).

1.2 Which of the following is a risk that arises from the use of IT systems?
(a) Direct data changes (backend changes).
(b) Limited/Monitored access.
(c) Adequate segregation of duties.
(d) Authorized access to data.
1.3 The relationship between two controls is such that _____________ are needed to support
the functioning of _______________, and both are needed to ensure complete and
accurate information processing through IT systems.
(a) IT Dependent Controls, General Controls
(b) Application Controls, General Controls.
(c) General Controls, IT Dependent Controls.
(d) General IT Controls, Application Controls.
1.4 The term Internal Financial Controls (IFC) refers to the policies and procedures put in place
by companies for ensuring which of the following:
(a) reliability of financial transactions.
(b) effectiveness and efficiency of operations.
(c) safeguarding of human resources.
(d) prevention and detection of errors.
1.5 Data analytics can be used in testing of electronic records and data residing in IT systems
using spreadsheets and specialized audit tools viz., IDEA and ACL to perform which of the
following:
(a) Evaluating impact of control deficiencies.
(b) Compliance with applicable laws and regulations.
(c) Authorized changes to system or programs.
(d) Providing latest information.
Case Scenario - 2
You are a partner in ABC & Company, a Chartered Accountant firm based in New Delhi. ABC &
Company has been appointed as the statutory auditor of onetime Limited, a public limited
company which manufactures and sells wall and table clocks and has many branches all over
India. onetime Limited has been exporting the clocks since past two years. However, the
domestic sales have contributed towards major source of revenue for the Company.
You being the engagement partner have started the audit for the year ended 31.03.2021 along
with your five team members. One of the team members, CA B started verification of inventory.
In addition to other procedures, he also checked that valuation of Inventory had been recognised

in accordance with AS -2. During detailed checking, he noticed that the amount spent on salary
of administrative employees and normal wastage on production of the clocks, had not been
added to the valuation of Inventory. The contention of XYZ Limited was that since the co st was
not directly related to the production cost and so not added to the cost of inventory.
CA B also noticed that one of the suppliers of onetime Limited, Mr AM had sent some raw
material to the Company for storage in their warehouse in March 2021. Due to renovation going
on at his warehouse, his stock could be damaged and so he had requested Onetime Limited to
keep the same in their warehouse. onetime Limited contended that since the raw material was
anyway billed to the Company the next month, so the same had been included in the valuation
of stock, since physically the stock was present in the warehouse of Onetime Limited as on
31.03.2021.
The Company had issued shares at premium, and the premium received on the shares had
been transferred to a “securities premium account”. The same was then applied in writing off
the expenses of selling the clocks, writing off the preliminary expenses of the Company and also
writing off the commission paid to the sales agents. You have verified the same in detail.
While verifying debtors, team member C noticed that there were a few trade receivables
pertaining to export sales mainly to England. Mr. C verified the same with respect to the invoices
issued and other supporting documents. The amount booked as on 31.03.2 021 was based on
the exchange rate as on the date of the invoice.
Mr. T, another team member verified the fixed assets of the Company. onetime Limited had
purchased few cars for its directors during the year of audit. The same were appearing in the
fixed assets schedule of the Company. Mr T verified the same with respect to the invoices as
well as physically verified the assets in the Company’s premises. Since the cars were for the
official use of the Directors, they were purchased in the name of the Direct ors of the Company.
Mr. T verified the amount with the Invoice and checked the registration and insurance
documents.
One of the article clerks was assigned the work of verification of “Provisions” appearing in the
Balance sheet. He wanted to understand from you the circumstances in which a provision is
recognised in the books of account. You explained him the situations in which an entity
recognises Provisions in its books.
Onetime Limited has invested in the shares of other companies. One of the Compan ies has
declared dividend on its shares. Onetime Limited has not recognised the same in the profit &
loss account. Team Member R has asked you to look into the matter since she is unable to
understand the reasons for the same.
The Company had spent a huge amount on repair and maintenance of the machinery used for
the production of the clocks. The amount was accounted for in two parts: repairs were booked
as a revenue expenditure and annual maintenance charges were capitalised and added to the
machinery cost. Ms. R has verified the same in detail and raised her observations.

2.1 Is the raw material lying in the warehouse of onetime Limited accounted for correctly in its
books of account?
(a) No, since the same belongs to Mr. AM and should appear in his books.
(b) Yes, since the same is in possession of onetime Limited and was billed to it the
following month.
(c) It should be shown in the books of both onetime Limited and Mr. AM.
(d) It should not appear in the books of onetime Limited or Mr. AM and the raw mater ial
should be disclosed as a note in the final accounts of both the entities.
2.2 Which exchange rate is considered for accounting of foreign debtors at the year end?
(a) Exchange Rate on the date of the invoice.
(b) Exchange Rate on the last day of the financial year.
(c) Exchange Rate on the date of shipment of the products to the customer.
(d) Exchange Rate on the date of delivery of the products to the customer.
2.3 Which of the following assertions with respect to fixed assets has not been compl ied with
by the Company?
(a) Existence
(b) Valuation
(c) Cut-Off
(d) Rights and Obligations
2.4 Which of the following condition is not required to be met for recognizing a provision?
(a) When a possible obligation that arises from past events and whose existence will be
confirmed only by the occurrence or non-occurrence of one or more uncertain future
events not wholly within the control of the entity.
(b) When an entity has a present obligation (legal or constructive) as a result of a past
event.
(c) A reliable estimate can be made of the amount of the obligation.
(d) When it is probable that an outflow of resources embodying economic benefits will be
required to settle the obligation.

2.5 Dividends are recognized in the statement of profit and loss only on fulfilment of which
condition:
(a) the entity’s right to receive payment of the dividend is established.
(b) it is probable that the economic benefits associated with the dividend will flow to the
entity.
(c) the amount of the dividend can be measured reliably.
(d) All of the above
General MCQs
1. A type of super user access to information systems that enforces less or no limits on using
that system is known as:
(a) Super access.
(b) Super user access.
(c) Unlimited access.
(d) Privileged access.
2. Which of the following is not an example of inflation of payments:
(a) Making payments against fictitious vouchers.
(b) Adjusting unauthorized or fictitious rebates, allowances, discounts, etc. to customer’
accounts and misappropriating amount paid by them.
(c) Making payments against vouchers, the amounts whereof have been inflated.
(d) Manipulating totals of wage rolls either by including therein names of dummy workers
or by inflating them in any other manner.
3. _____requires firms to establish policies and procedures for the retention of________. The
retention period for audit engagements ordinarily is no shorter than ______from the date
of the auditor’s report, or, if later, the date of the group auditor’s report
(a) SA 220, audit evidence, six years
(b) SA 200, audit documentation, seven years
(c) SQC 1, engagement documentation, seven years
(d) SA 230, documentation, six years
4. ………….. is the threat which occurs when the auditor promotes, or is perceived to
promote, a client’s opinion to a point where people may believe that objectivity is getting
compromised
(a) Familiarity threat

(b) Advocacy threat

(c) Self Review threat
(d) Intimidation threat
5. _______refer to the audit procedures performed to obtain an understanding of the entity
and its environment, including the entity’s internal control, to identify and assess the risks
of material misstatement, whether due to fraud or error, at the financial statement and
assertion levels.
(a) Internal control assessment procedures
(b) Risk assessment procedures
(c) substantive procedures
(d) analytical procedures
(i) No entry is passed for cheques received by the auditee on the last day of the year
and not yet deposited with the Bank.
(ii) Written representation from management can be a substitute for other evidence that
the auditor could expect to be reasonably available.
(iii) According to Para 3(1)(d) of CARO, 2020, an auditor needs to report whether the
company has revalued its Property, Plant and Equipment (including Right of Use
assets) or intangible assets or both during the year and, if so, whether the revaluation
is based on the valuation by a Registered Valuer; specify the amount of change, if
change is 5% or more in the aggregate of the net carrying value of each class of
Property, Plant and Equipment or intangible assets
(iv) Communicating key audit matters in the auditor’s report is a substitute for reporting
in accordance with SA 570 when a material uncertainty exists relating to events or
conditions that may cast significant doubt on an entity’s ability to continue as a going
concern
(v) A loan granted for short duration crops will be treated as NPA, if the ins talment of
principal or interest thereon remains overdue for one crop season.
(vi) It needs to be ensured that the drawing power is calculated as per the extant
guidelines formulated by the RBI and agreed upon by the concerned statutory
auditors. Special consideration need not be given to proper reporting of sundry
creditors for the purposes of calculating drawing power.
(vii) The duties and powers of the Comptroller and Auditor General in relation to the audit
of the accounts of government companies shall be performed and exercised by him

in accordance with the provisions of the The Comptroller & Auditor General’s (Duties,
Powers and Conditions of Service) Act, 1971
(viii) Before holding inquiry by the Central Registrar thirty days’ notice must be given to
the Multi-State co-operative society.
2. (a) The IESBA Code establishes the fundamental principles of professional ethics
relevant to the auditor when conducting an audit of financial statements. Discuss and
also explain the meaning of ethics.
(b) Standards on Auditing (SAs) apply in “audit of historical financial information”
whereas Standards on Review Engagements (SREs) apply in “review of historical
financial information.” Explain in detail giving examples.
3. The Code of Ethics for Professional Accountants, prepared by the International Federation
of Accountants (IFAC) identifies five types of threats. Explain those threats in detail giving
examples.
4. (a) Engagement Partner CA Hitesh Kapur of Kapur and Associates wanted to develop an
audit plan of Sampurna Fabrics Ltd. Discuss the matters to be described in such an
audit plan.
(b) Without adequate knowledge of client’s business, a proper audit is not possible. The
auditor shall obtain an understanding of the entity’s objectives and strategies, and
those related business risks that may result in risks of material misstatement. Explain
giving examples.
5. You are being appointed as the auditor of Track Ltd. for the first time. You want to
determine the materiality level and for that you have applied percentage to choose
benchmark as a starting point in determining materiality for the financial statements as a
whole. What are the factors that may affect the identification of an appropriate benchmark?
6. While conducting the audit of Pummy Limited, the statutory auditors collected written
representations from the Management. The audit was finalized in addition to other audit
procedures but, without making any inquiries, as the statutory auditors were short of time.
In the light of this information, state the importance of inquiry as one of the methods of
collecting Audit Evidence.
7. (a) GPS & Co, Chartered Accountants, conducting the audit of Pratibha Ltd., a listed
company for the year ended 31.03.2022 is concerned with the presentation and
disclosure of segment information included in Company's Annual Report. GPS & Co
wanted to ensure that methods adopted by management for determining segment
information have resulted in disclosure in accordance with the applicable financia l

reporting framework. Guide GPS & Co with 'Examples of Matters' that may be relevant
when obtaining an understanding of the methods used by the management with
reference to the relevant Standards on Auditing.
(b) Pachranga International Ltd is manufacturer of pickles, ginger garlic paste, jams etc
having its plant at Jaipur. Being in food industry, the company is facing many
litigations in various courts across India. Auditors SPV & Co. wants to identify such
litigations and claims involving the company which may give rise to risk of material
misstatement. Guide the auditor as to how they should proceed for the purpose.
8. TRS & Associates, Chartered Accountants, having completed the audit of Genuine
Leathers Ltd has started the assembling of final audit file. TRS & Associates has
established policies and procedures for the timely completion of the assembly of audit files.
Explain the various aspects related to final audit file discussed in SA 230 giving specific
reference to SQC 1, wherever required.
9. (a) Generally, IT benefits an entity’s internal control by enabling an entity to enhance the
timeliness, availability, and accuracy of information. Discuss explaining the other
relevant points in the above context.
(b) While conducting the audit of Smart TV Ltd, engagement team of HTR& Co, has
considered materiality and audit risk throughout the audit. Discuss explaining the
meaning of audit risk.
10. Saburi Textile Ltd is an established player in the textile manufacturing sector. It has
developed strong internal controls in almost every area. It has appointed you as an Internal
Audit team head. Internal audit has a very strong relation with internal control of the
company. Internal Audit analyses the effectiveness with which the internal control of the
company is operating and also makes suggestions for improvement in that internal control.
Explain stating clearly activities relating to Internal Control.
11. CA Dev of D R Sanduja & Co., statutory auditor of company, Girija Fabs Ltd, in the course
of the performance of his duties as auditor, has reason to believe that an o ffence of fraud
to the tune of Rs 1.25 Crores has been committed in the company by its employees. CA
Dev, the auditor wanted to report the matter to the Central Government as per Law. He
refers to Rule 13 of the Companies (Audit and Auditors) Rules, 2014. Sub-rule (1) of the
said rule states that if an auditor of a company, in the course of the performance of his
duties as statutory auditor, has reason to believe that an offence of fraud, which involves
or is expected to involve individually an amount of ` 1 crore or above, is being or has
been committed against the company by its officers or employees, the auditor shall report
the matter to the Central Government.
In the above context, explain the manner of reporting the matter to the Central Government.

12. While conducting audit of Always Best Company Ltd, auditor B of B L Kapur & Co. observes
lot of intentional misstatements, e.g. fake invoices etc., and considers these encounters
as exceptional circumstances and this brings into question his ability to continue
performing the audit. Advise B as to what should he do?
13. With respect to audit in an automated environment, explain the following:
(i) Applications
(ii) Automated
(iii) CAATs
(iv) Data Processing
(v) General (IT) Controls
14. Explain the meaning of Internal Financial Controls clearly stating reporting requirement
(with reference to audit) on adequacy of internal financial controls. Also discuss about its
(reporting requirement on adequacy of internal financial controls) applicability on various
types of Companies.
15. What are the advantages of Statistical sampling technique in auditing
16. Sampling risk can lead to two types of erroneous conclusions. Explain clearly stating the
meaning of sampling risk
17. If analytical procedures performed in accordance with SA 520 identify flu ctuations or
relationships that are inconsistent with other relevant information or that di ffer from
expected values by a significant amount, how would the auditor investigate such
differences.
18. Discuss the matters relevant to the auditor’s evaluation of whether the expectation can be
developed sufficiently precisely to identify a misstatement that, when aggregated with
other misstatements, may cause the financial statements to be materially misstated.
19. Explain how you will verify the items given while conducting an audit of an entity:
(a) Recovery of Bad debts written off
(b) Receipt of Insurance claims
(c) Payment of Taxes
(d) Sale proceeds of scrap material

20. While conducting audit of Air Space Ltd, the auditor observes that it has issued shares at
discount to its creditors when its debt is converted into shares in pursuance of debt
restructuring scheme in accordance with any guidelines specified by the Reserve Bank of
India. Discuss explaining clearly the provisions relating to discount on issue of shares and
its verification by the auditor.
21. Before appointment is made under Section 139(1) of the Companies Act, 2013, the written
consent of the auditor to such appointment, and a certificate from him or it that the
appointment, if made, shall be in accordance with the conditions as may be prescribed,
shall be obtained from the auditor. Explain stating clearly provisions of Section 139(1)
along with Rule 4 of The Companies (Audit and Auditors) Rules, 2014.
22. Harry Limited appointed CA Lakshman as an auditor of the company for a term of 5 years.
Further, the company offered him the services of actuarial which were also approved by
the board of directors. As an auditor, how would you deal with such situation?
23. Explain the Reporting requirements the auditor should ensure under CARO 2020 related
to PPE and Intangible assets.
24. The auditor shall evaluate whether the financial statements are prepared in accordance
with the requirements of the applicable financial reporting framework. Explain stating
clearly specific evaluations made by the auditor.
25. When the auditor disclaims an opinion on the financial statements due to an inability to
obtain sufficient appropriate audit evidence, the auditor shall amend the description of the
auditor’s responsibilities required by SA 700. Explain
26. There are different provisioning requirements as regards to categories of NPA such as
Sub-standards assets, Doubtful assets and loss assets. Explain in detail .
27. Explain the following in the context of Bank audit:
(a) For audit of operating expenses, the auditor should study and evaluate the system of
internal control relating to expenses.
(b) For audit of Provisions and contingencies, the auditor should ensure that the
compliances for various regulatory requirements for provisioning as contained in the
various circulars have been fulfilled.
Chapter 13- Audit of Different Types of Entities
28. (a) Pilfering is one of the greatest problems in any hotel and the importance of internal
control cannot be undermined. Explain.

(b) No inspection under Section 79 of Multi-State Co-operative Societies Act, 2002 shall
be made unless a notice has been given to the multi-state co-operative society.
Explain stating clearly when and how such inspection can be made. Also state the
powers available with the Central Registrar in this regard along with provisions
relating to communication of the inspection report under the said section.
SUGGESTED ANSWERS

Question Answer
No.
1.1 (c) Volume of transactions is low
1.2 (a) Direct data changes (backend changes).
1.3 (d) General IT Controls, Application Controls.
1.4 (b) effectiveness and efficiency of operations.
1.5 (a) Evaluating impact of control deficiencies.
Question Answer
No.
2.1 (a) No, since the same belongs to Mr. AM and should appear in his books.
2.2 (b) Exchange Rate on the last day of the financial year.
2.3 (d) Rights and Obligations
2.4 (a) When a possible obligation that arises from past events and whose
existence will be confirmed only by the occurrence or non-occurrence of
one or more uncertain future events not wholly within the control of the
entity.
2.5 (d) All of the above
Answer Key- General MCQ’s
1. (d)
2. (b)
3. (c)
4. (b)
5. (b)

Descriptive Answers
1. (i) Incorrect: The person who is controlling the trade receivables should ensure that
proper accounting entries have been passed by crediting respective trade receivables
account. The balance of cheque in hand should be disclosed along with the cash and
bank balances in the financial statements.
(ii) Incorrect: One of the objectives of the written representation is to support other audit
evidence relevant to the financial statements or specific assertions in the financial
statements by means of written representation. So it is clear that written
representations cannot be a substitute for other evidence that the auditor could
expect to be reasonably available.
(iii) Incorrect: According to Para 3(1)(d) of CARO, 2020, an auditor needs to report
whether the company has revalued its Property, Plant and Equipment (including Right
of Use assets) or intangible assets or both during the year and, if so, whether the
revaluation is based on the valuation by a Registered Valuer; specify the amount of
change, if change is 10% or more in the aggregate of the net carrying value of each
class of Property, Plant and Equipment or intangible assets
(iv) Incorrect: Communicating key audit matters in the auditor’s report is not a substitute
for reporting in accordance with SA 570 when a material uncertainty exists relating to
events or conditions that may cast significant doubt on an entity’s ability to continue
as a going concern
(v) Incorrect: A loan granted for short duration crops will be treated as NPA, if the
instalment of principal or interest thereon remains overdue for two crop seasons.
A loan granted for long duration crops will be treated as NPA, if the instalment of
principal or interest thereon remains overdue for one crop season.
(vi) Incorrect: It needs to be ensured that the drawing power is calculated as per the
extant guidelines formulated by the Board of Directors of the respective bank and
agreed upon by the concerned statutory auditors. Special consideration should be
given to proper reporting of sundry creditors for the purposes of calculating drawing
power.
(vii) Incorrect The duties and powers of the Comptroller and Auditor General in relation
to the audit of the accounts of government companies shall be performed and
exercised by him in accordance with the provisions of the Companies Act, 2013
(viii) Incorrect: Before holding inquiry by the Central Registrar fifteen days’ notice must
be given to the Multi-State co-operative society.
2. (a) The auditor shall comply with relevant ethical requirements, including those pertaining
to independence, relating to financial statement audit engagements. Relevant ethical
requirements ordinarily comprise the Code of Ethics for Professional Accountants
(IESBA Code) related to an audit of financial statements.

First, broadly understand what are ethics? “Ethics” are the principles of conduct
governing an individual or group. Professions like law, medicine have their code of
ethics. Auditing profession is no exception. Rather, in profession of auditing,
importance of ethics is manifold.
The IESBA Code establishes the following as the fundamental principles of
professional ethics relevant to the auditor when conducting an audit of financial
statements. We shall understand broad meaning and intent of these fundamental
principles as under:-
(a) Integrity
Integrity requires auditor to be straight forward and honest in all professional
and business relationships. It implies fair dealing and truthfulness. It effectively
means that he shall not be associated with reports, returns, communications or
other information which he believes contains a materially false or misleading
statement; contains statements or information provided recklessly or omits
required information where such omission could be misleading.
(b) Objectivity
The principle of objectivity requires an auditor not to compromise professional
judgment because of bias, conflict of interest or undue influence of others.
(c) Professional competence and due care
It requires that auditor attains and maintains professional knowledge and skill at
the level required to render competent professional service based on current
technical and professional standards and legislation and also to act diligently
and in accordance with technical and professional standards. Diligence includes
responsibility to act carefully, thoroughly and on a timely basis in accordance
with requirements of an assignment.
(d) Confidentiality
Confidentiality principle requires an auditor to respect the confidentiality of
information acquired as a result of professional or business relationships.
and
(e) Professional behaviour
It requires an auditor to comply with relevant laws and regulations and avoid any
conduct that he knows or should know might discredit the profession.
(b) It is to be understood that Standards on Auditing (SAs) apply in “audit of historical
financial information” whereas Standards on Review Engagements (SREs) apply in
“review of historical financial information”. Remember that Standards on auditing
apply in “audit” of historical financial information which is a reasonable assurance

engagement whereas Standards on Review Engagements apply in “review” of

historical financial information which is a limited assurance engagement only.
“Historical financial information means” information expressed in financial terms in
relation to a particular entity, derived primarily from that entity’s accounting system,
about economic events occurring in past time periods or about economic conditions
or circumstances at points in time in the past.
Here, we have to broadly understand that “audit” and “review” are two different terms.
Audit is a reasonable assurance engagement, and its objective is reduction in
assurance engagement risk to an acceptably low level in the circumstances of the
engagement. However, “review” is a limited assurance engagement, and its objective
is a reduction in assurance engagement risk to a level that is acceptable in the
circumstances of the engagement,
Standards on Auditing have been issued on wide spectrum of issues in the field of
auditing including (but not limited to) overall objectives of independent auditor, audit
documentation, planning an audit of financial statements, identifying and assessing
risk of material misstatement, audit evidence, audit sampling, going concern and
forming an opinion and reporting on financial statements.
Some examples of Standards on Auditing are :
(i) SA 200 Overall Objectives of the Independent Auditor and the Conduct of an
Audit in Accordance with Standards on Auditing
(ii) SA 230 Audit Documentation
(iii) SA 315 Identifying and Assessing the Risks of Material Misstatement through
Understanding the Entity and its Environment
(iv) SA 500 Audit Evidence
(v) Revised SA 700 Forming an Opinion and Reporting on Financial Statements
Examples of Standards on Review engagements are
(i) SRE 2400 (Revised) Engagements to Review Historical Financial Statements
(ii) SRE 2410 Review of Interim Financial Information Performed by the
Independent Auditor of the Entity
3. The Code of Ethics for Professional Accountants, prepared by the International Federation
of Accountants (IFAC) identifies five types of threats. These are:
1. Self-interest threats, which occur when an auditing firm, its partner or associate
could benefit from a financial interest in an audit client. Examples include (i) direct
financial interest or materially significant indirect financial interest in a client, (ii) loan
or guarantee to or from the concerned client, (iii) undue dependence on a client’s fees
and, hence, concerns about losing the engagement, (iv) close business relationship
with an audit client, (v) potential employment with the client, and (vi) contingent fees

for the audit engagement. Like, in case an audit firm unduly relies on fees from a
client, it may result in threat to self interest of auditor and he may not work
objectively for the fear of losing client.
2. Self-review threats, which occur when during a review of any judgement or
conclusion reached in a previous audit or non-audit engagement (Non audit services
include any professional services provided to an entity by an auditor, other than audit
or review of the financial statements. These include management services, internal
audit, investment advisory service, design and implementation of information
technology systems etc.), or when a member of the audit team was previously a
director or senior employee of the client. Instances where such threats come into play
are (i) when an auditor having recently been a director or senior o fficer of the
company, and (ii) when auditors perform services that are themselves subject matters
of audit.
3. Advocacy threats, which occur when the auditor promotes, or is perceived to
promote, a client’s opinion to a point where people may believe that objectivity is
getting compromised, e.g. when an auditor deals with shares or securities of the
audited company, or becomes the client’s advocate in litigation and third party
disputes. In such situations, auditor can be perceived as backing and
championing causes of auditee client and it may lead to belief that auditor is
not acting and working objectively. Remember that auditor has not only to be
independent but also appear to be acting so.
4. Familiarity threats are self-evident, and occur when auditors form relationships with
the client where they end up being too sympathetic to the client’s interests. This can
occur in many ways: (i) close relative of the audit team working in a senior position in
the client company, (ii) former partner of the audit firm being a director or senior
employee of the client, (iii) long association between specific auditors and their
specific client counterparts, and (iv) acceptance of significant gifts or hospitality from
the client company, its directors or employees. Provisions in Companies Act, 2013
regarding rotation of auditors mainly address these very familiarity threats.
Such provisions prescribe that auditor is rotated after a certain number of years
so that auditors do not become too familiar with their clients.
5. Intimidation threats, which occur when auditors are deterred from acting objectively
with an adequate degree of professional skepticism. Basically, these could happen
because of threat of replacement over disagreements with the application of
accounting principles, or pressure to disproportionately reduce work in response to
reduced audit fees or being threatened with litigation. Such threats attempt to
intimidate auditors to deter them from acting objectively.
4. (a) The auditor shall develop an audit plan that shall include a description of :
(i) The nature, timing and extent of planned risk assessment procedures, as
determined under SA 315 “Identifying and Assessing the Risks of Material

Misstatement through Understanding the Entity and Its Environment”.

(ii) The nature, timing and extent of planned further audit procedures at the
assertion level, as determined under SA 330 “The Auditor’s Responses to
Assessed Risks”.
(iii) Other planned audit procedures that are required to be carried out so that the
engagement complies with SAs.
The audit plan is more detailed than the overall audit strategy that includes the nature,
timing and extent of audit procedures to be performed by engagement team members.
Planning for these audit procedures takes place over the course of the audit as the
audit plan for the engagement develops.
Example
Planning of the auditor’s risk assessment procedures occurs early in the audit
process.
However, planning the nature, timing and extent of specific further audit procedures
depends on the outcome of those risk assessment procedures. In addition, the auditor
may begin the execution of further audit procedures for some classes of transactions,
account balances and disclosures before planning all remaining further audit
procedures.
(b) Knowledge of the client’s business is one of the important principles in developing an
overall audit plan. In fact without adequate knowledge of client’s business, a proper
audit is not possible. As per SA-315, “Identifying and Assessing the Risk of Material
Misstatement through Understanding the Entity and Its Environment”, the auditor shall
obtain an understanding of the entity’s objectives and strategies, and those related
business risks that may result in risks of material misstatement.
Example
1. If one of management’s objectives is to grow the business, management may
develop a strategy of steady but regular growth through specific marketing
campaigns and development of new markets. Alternatively, management may
develop a more aggressive, complex strategy of acquiring competitors. Each of
these strategies gives rise to differing business risks and potentially differing
2. Examples of potential business risks include:
(i) Failure to keep up to date with new products, technologies or services.
(ii) Excessive reliance on a key supplier, product or individual, such as the owner.
(iii) Lack of personnel with expertise to react to changes in the industry.
(iv) Insufficient or excessive production capacity caused by inaccurate
estimation of demand.

➢ Loss of financing due to the entity’s inability to meet financial

covenants
5. SA 320 “Materiality in Planning and Performing an Audit” prescribes the use of
Benchmarks in Determining Materiality for the Financial Statements as a Whole.
Determining materiality involves the exercise of professional judgment. A percentage is
often applied to a chosen benchmark as a starting point in determining materiality for the
financial statements as a whole.
Factors that may affect the identification of an appropriate benchmark include the following:
i. The elements of the financial statements (for example, assets, liabilities, equity,
revenue, expenses);
ii. Whether there are items on which the attention of the users of the particular entity's
financial statements tends to be focused (for example, for the purpose of evaluating
financial performance, users may tend to focus on profit, revenue or net assets);
iii. The nature of the entity, where the entity is at in its life cycle, and the industry and
economic environment in which the entity operates.
iv. The entity's ownership structure and the way it is financed (for example, if an
entity is financed solely by debt rather than equity, users may put more emphasis on
assets, and claims on them, than on the entity's earnings); and
v. The relative volatility of the bench.
6. Inquiry: As per SA 500 Audit Evidence: -
(i) Inquiry consists of seeking information of knowledgeable persons, financial and non -
financial, within the entity or outside the entity. Inquiry is used extensively throughout
the audit in addition to other audit procedures. Inquiries may range from formal written
inquiries to informal oral inquiries. Evaluating responses to inquiries is an integral part
of the inquiry process.
(ii) Responses to inquiries may provide the auditor with information not previously
possessed or with corroborative audit evidence. Alternatively, responses might
provide information that differs significantly from other information that the auditor has
obtained, for example, information regarding the possibility of management override
of controls. In some cases, responses to inquiries provide a basis for the auditor to
modify or perform additional audit procedures.
(iii) Although corroboration of evidence obtained through inquiry is often of particular
importance, in the case of inquiries about management intent, the information
available to support management’s intent may be limited. In these cases,
understanding management’s past history of carrying out its stated intentio ns,
management’s stated reasons for choosing a particular course of action, and

management’s ability to pursue a specific course of action may provide relevant

information to corroborate the evidence obtained through inquiry.
(iv) In respect of some matters, the auditor may consider it necessary to obtain written
representations from management and, where appropriate, those charged with
governance to confirm responses to oral inquiries.
7. (a) The auditors, GPS & Co wanted to ensure and obtain sufficient appropriate audit
evidence regarding the presentation and disclosure of segment information in
accordance with the applicable financial reporting framework by obtaining an
understanding of the methods used by management in determining segment
information. SA 501 guides in this regard. As per SA 501- “Audit Evidence—Specific
Considerations for Selected Items”, example of matters that may be relevant when
obtaining an understanding of the methods used by management in determining
segment information and whether such methods are likely to result in disclosure in
accordance with the applicable financial reporting framework include:
(i) Sales, transfers and charges between segments, and elimination of inter -
segment amounts.
(ii) Comparisons with budgets and other expected results, for example, operating
profits as a percentage of sales.
(iii) The allocation of assets and costs among segments.
(iv) Consistency with prior periods, and the adequacy of the disclosures with respect
to inconsistencies.
(b) The auditor SPV & Co. shall design and perform audit procedures in order to identify
litigation and claims involving the entity (Pachranga International Ltd) which may give
rise to a risk of material misstatement, including:
(i) Inquiry of management and, where applicable, others within the entity, including
in-house legal counsel.
(ii) Reviewing minutes of meetings of those charged with governance and
correspondence between the entity and its external legal counsel; and
(iii) Reviewing legal expense accounts.
8. The auditor TRS & Associates, Chartered Accountants shall assemble the audit
documentation in an audit file and complete the administrative process of assembling the
final audit file on a timely basis after the date of the auditor’s report.
(i) SQC 1 “Quality Control for Firms that perform Audits and Review of Historical
Financial Information, and other Assurance and related services”, requires firms to
establish policies and procedures for the timely completion of the assembly of audit
files.

(ii) An appropriate time limit within which to complete the assembly of the final audit file
is ordinarily not more than 60 days after the date of the auditor’s report. The
completion of the assembly of the final audit file after the date of the auditor’s report
is an administrative process that does not involve the performance of new audit
procedures or the drawing of new conclusions.
(iii) Changes may, however, be made to the audit documentation during the final
(i) Deleting or discarding superseded documentation.
(ii) Sorting, collating and cross-referencing working papers.
(iii) Signing off on completion checklists relating to the file assembly process.
(iv) Documenting audit evidence that the auditor has obtained, discussed and
agreed with the relevant members of the engagement team before the date of
the auditor’s report.
(v) After the assembly of the final audit file has been completed, the auditor shall
retention period.
(vi) SQC 1 requires firms to establish policies and procedures for the retention of
9. (a) Generally, IT benefits an entity’s internal control by enabling an entity to:
(i) Consistently apply predefined business rules and perform complex calculations
in processing large volumes of transactions or data;
(ii) Enhance the timeliness, availability, and accuracy of information;
(iii) Facilitate the additional analysis of information;
(iv) Enhance the ability to monitor the performance of the entity’s activities and its
policies and procedures;
(v) Reduce the risk that controls will be circumvented; and
(vi) Enhance the ability to achieve effective segregation of duties by implementing
security controls in applications, databases, and operating systems.
(b) Audit risk is the risk that the auditor expresses an inappropriate audit opinion when
the financial statements are materially misstated. Audit risk is a function of the risks
of material misstatement and detection risk. Materiality and audit risk are considered
throughout the audit, in particular, when:
(a) Identifying and assessing the risks of material misstatement;

(b) Determining the nature, timing and extent of further audit procedures; and
(c) Evaluating the effect of uncorrected misstatements, if any, on the financial
statements and in forming the opinion in the auditor’s report.
10. The objectives and scope of internal audit functions typically include assurance and
consulting activities designed to evaluate and improve the effectiveness of the entity’s
governance processes, risk management and internal control such as the activities
Relating to Internal Control:
(i) Evaluation of internal control: The internal audit function may be assigned specific
responsibility for reviewing controls, evaluating their operation and recommending
improvements thereto. In doing so, the internal audit function provides assurance on
the control. For example, the internal audit function might plan and perform tests or
other procedures to provide assurance to management and those charged with
governance regarding the design, implementation and operating effectiveness of
internal control, including those controls that are relevant to the audit.
(ii) Examination of financial and operating information: The internal audit function
may be assigned to review the means used to identify, recognize, measure, classify
and report financial and operating information, and to make specific inquiry into
individual items, including detailed testing of transactions, balances and procedures.
(iii) Review of operating activities: The internal audit function may be assigned to
review the economy, efficiency and effectiveness of operating activities, including
nonfinancial activities of an entity.
(vi) Review of compliance with laws and regulations: The internal audit function may
be assigned to review compliance with laws, regulations and other external
requirements, and with management policies and directives and other internal
requirements.
Internal audit has a very strong relation with internal control of a company. Internal
Audit analyzes the effectiveness with which the internal control of a company is
operating and also makes suggestions for improvement in that internal control.
11. The manner of reporting the matter to the Central Government is as follows:
(a) the auditor shall report the matter to the Board or the Audit Committee, as the case
may be, immediately but not later than 2 days of his knowledge of the fraud, seeking
their reply or observations within 45 days;
(b) on receipt of such reply or observations, the auditor shall forward his report and the
reply or observations of the Board or the Audit Committee along with his comments
(on such reply or observations of the Board or the Audit Committee) to the Central
Government within 15 days from the date of receipt of such reply or observations;
(c) in case the auditor fails to get any reply or observations from the Board or the Audit
Committee within the stipulated period of 45 days, he shall forward his report to the

Central Government along with a note containing the details of his report that was
earlier forwarded to the Board or the Audit Committee for which he has not received
any reply or observations;
(d) the report shall be sent to the Secretary, Ministry of Corporate Affairs in a sealed
cover by Registered Post with Acknowledgement Due or by Speed Post followed by
an e-mail in confirmation of the same;
(e) the report shall be on the letter-head of the auditor containing postal address, e-mail
address and contact telephone number or mobile number and be signed by the
auditor with his seal and shall indicate his Membership Number; and
(f) the report shall be in the form of a statement as specified in Form ADT -4.
12. If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor
encounters exceptional circumstances that bring into question the auditor’s ability to
continue performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in the circumstances,
including whether there is a requirement for the auditor to report to the person or
persons who made the audit appointment or, in some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the engagement, where
withdrawal is possible under applicable law or regulation; and
(c) If the auditor withdraws:
(i) Discuss with the appropriate level of management and those charged with
governance the auditor’s withdrawal from the engagement and the reasons for
the withdrawal; and
(ii) Determine whether there is a professional or legal requirement to report to the
person or persons who made the audit appointment or, in some cases, to
regulatory authorities, the auditor’s withdrawal from the engagement and the
reasons for the withdrawal.
13. (i) Applications: These are computer software programs that provide a medium for
recording, storage and retrieval of business operations or transactions in electronic
format.
(ii) Automated: A task or activity that is routinely performed by a computer system and
does not require manual effort
(iii) CAATs: Short form for Computer Assisted Audit Techniques, are a collection of
computer-based tools and techniques that are used in an audit for analysing data in
electronic form to obtain audit evidence.
(iv) Data Processing: Refers to the systematic recording, storage, retrieval, modification
and transformation of electronic data using information systems.

(v) General (IT) Controls: Are a type of internal controls that help in mitigating risks that
arise due to use of information technology and information systems in a business.
14. Explanation given in Clause (e) of Sub-section 5 of Section 134 explains the meaning
of internal financial controls as, “the policies and procedures adopted by the company
for ensuring the orderly and efficient conduct of its business, including adherence to
company’s policies, the safeguarding of its assets, the prevention and detection of frauds
and errors, the accuracy and completeness of the accounting records, and the timely
preparation of reliable financial information.”
From the above definition, it is clear that internal financial controls are the policies and
procedures adopted by the company for:
1. ensuring the orderly and efficient conduct of its business, including adherence to
company’s policies,
2. the safeguarding of its assets,
3. the prevention and detection of frauds and errors,
4. the accuracy and completeness of the accounting records, and
5. the timely preparation of reliable financial information.”
Section 143(3)(i) of the Act requires an auditor to report whether the company has
adequate internal financial controls with reference to financial statements in place and
the operating effectiveness of such controls.
However, it may be noted that the reporting requirement on adequacy of internal financial
controls (IFCs) with reference to financial statements shall not be applicable to a private
company which is a–
(i) One person company; or
(ii) Small company; or
(iii) Company having turnover less than ` 50 crore as per latest audited financial
statement and having aggregate borrowings from banks or financial institutions or
anybody corporate at any point of time during the financial year less than ` 25 crore.
15. Advantages of Statistical Sampling in Auditing: The advantages of statistical
sampling may be summarized as follows -
(i) The amount of testing (sample size) does not increase in proportion to the increase
in the size of the area (universe) tested.
(ii) The sample selection is more objective and thereby more defensible.
(iii) The method provides a means of estimating the minimum sample size associated
with a specified risk and precision.
(iv) It provides a means for deriving a “calculated risk” and corresponding precision
(sampling error) i.e. the probable difference in result due to the use of a sample in

lieu of examining all the records in the group (universe), using the same audit
procedures.
(v) It may provide a better description of a large mass of data than a complete
examination of all the data, since non-sampling errors such as processing and clerical
mistakes are not as large.
16. Sampling Risk. The risk that the auditor’s conclusion based on a sample may be different
This risk will always be in existence when auditor uses sampling technique in conducting
his audit.
Sampling risk can lead to two types of erroneous conclusions:
(i) In the case of a test of controls, that controls are more effective than they actually
are, or in the case of a test of details, that a material misstatement does not exist
when in fact it does. The auditor is primarily concerned with this type of erroneous
conclusion because it affects audit effectiveness and is more likely to lead to an
inappropriate audit opinion. This is because of over reliance on the internal controls.
(ii) In the case of a test of controls, that controls are less effective than they actually
are, or in the case of a test of details, that a material misstatement exists when in
fact it does not. This type of erroneous conclusion affects audit efficiency as it would
usually lead to additional work to establish that initial conclusions were incorrect. This
is because of under reliance on the test of controls and detailed substantive
procedures performed by the auditor. Here risk of giving wrong opinion is minimum
but it will lead to more detailed checking which is time consuming.
relationships that are inconsistent with other relevant information or that di ffer from
expected values by a significant amount, the auditor shall investigate such differences by:
(i) Inquiring of management and obtaining appropriate audit evidence relevant to
management’s responses: Audit evidence relevant to management’s responses
may be obtained by evaluating those responses taking into account the auditor’s
understanding of the entity and its environment, and with other audit evidence
obtained during the course of the audit.
(ii) Performing other audit procedures as necessary in the circumstances: The need
to perform other audit procedures may arise when, for example, manage ment is
unable to provide an explanation, or the explanation, together with the audit evidence
obtained relevant to management’s response, is not considered adequate.
18. Matters relevant to the auditor’s evaluation of whether the expectation can be develo ped
sufficiently precisely to identify a misstatement that, when aggregated with other
misstatements, may cause the financial statements to be materially misstated, include:

(i) The accuracy with which the expected results of substantive analytical
procedures can be predicted.
For example, the auditor may expect greater consistency in comparing gross profit
margins from one period to another than in comparing discretionary expenses, such
as research or advertising.
(ii) The degree to which information can be disaggregated.
For example, substantive analytical procedures may be more effective when applied
to financial information on individual sections of an operation or to financial
statements of components of a diversified entity, than when applied to the financial
statements of the entity as a whole.
(iii) The availability of the information, both financial and non-financial.
For example, the auditor may consider whether financial information, such as
budgets or forecasts, and non-financial information, such as the number of units
produced or sold, is available to design substantive analytical procedures. If the
information is available, the auditor may also consider the reliability of the information.
19. (a) Recovery of Bad Debts written off: Recovery of bad debts written off is verified with
reference to relevant correspondence and proper authorisation.
(i) Ascertain the total amount lying as bad debts and verify the relevant
correspondence with the trade receivables whose accounts were written off as
bad debt.
(ii) Ensure that all recoveries of bad debts have been properly recorded in the books
of account.
(iii) Examine notification from the Court or from bankruptcy trustee. Letters from
collecting agencies or from account receivables should also be seen.
(iv) Check Credit Manager’s file for the amount received and see that the said
amount has been deposited into the bank promptly.
(v) Vouch acknowledgement receipts issued to account receivables or trustees.
(vi) Review the internal control system regarding writing off and recovery of bad
debts
(b) Receipt of Insurance Claims: Insurance claims may be in respect of fixed assets or
current assets. While vouching the receipts of insurance claims-
(i) The auditor should examine a copy of the insurance claim lodged with the
insurance company correspondence with the insurance company and with the
insurance agent should also be seen. Counterfoils of the receipts issued to the
insurance company should also be seen.

(ii) The auditor should also determine the adjustment of the amount received in
excess or short of the value of the actual loss as per the insurance policy.
(iii) The copy of certificate/report containing full particulars of the amount of loss
should also be verified.
(iv) The accounting treatment of the amount received should be seen particularly to
ensure that revenue is credited with the appropriate amount and that in respect
of claim against asset, the Statement of Profit and Loss is debited with the short
fall of the claim admitted against book value, if the claim was lodged in the
previous year but no entries were passed, entries in the Statement of Profit and
Loss should be appropriately described.
(c) Payment of Taxes:
(i) Obtain the computation of taxes prepared by the auditee and verify whether it is
as per the Income Tax Act/GST Act/ Rules/ Notifications/ Circulars etc.
(ii) Examine relevant records and documents pertaining to payment of advance
income tax and self assessment tax.
(iii) Payment on account of income-tax and other taxes like GST consequent upon
a regular assessment should be verified by reference to the copy of the
assessment order, notice of demand and the receipted challan acknowledging
the amount paid.
(iv) The penal interest charged for non-payment should be debited to the interest
account.
(v) Nowadays, electronic payment of taxes is also in trend. Such electronic payment
of taxes by way of internet banking facility or credit or debit cards shall also be
verified.
(vi) The assessee can make electronic payment of taxes also from the account of
any other person. Therefore, it should be verified that the challan for making
such payment is clearly indicating the PAN No./TAN No./TIN No./GSTIN etc. of
the assessee on whose behalf the payment is made.
(d) Sale Proceeds of Scrap Material:
(i) Review the internal control on scrap materials, as regards its generation, storage
and disposal and see whether it was properly followed at every stage.
(ii) Ascertain whether the organisation is maintaining reasonable records for the
sale and disposal of scrap materials.
(iii) Review the production and cost records for determination of the extent of scrap
materials that may arise in a given period.
(iv) Compare the income from the sale of scrap materials with the corresponding
figures of the preceding three years.

(v) Check the rates at which different types of scrap materials have been sold and
compare the same with the rates that prevailed in the preceding year.
(vi) See that scrap materials sold have been billed and check the calculations on the
invoices.
(vii) Ensure that there exists a proper procedure to identify the scrap material and
good quality material is not mixed up with it and sold as scrap
(viii) Make an overall assessment of the value of the realisation from the sale of scrap
materials as to its reasonableness.
20. Shares issued at a discount
(1) a company shall not issue shares at a discount, except in the case of an issue of
sweat equity shares given under Section 54 of the Companies Act, 2013.
shares at a discount to its creditors when its debt is converted into shares in
pursuance of any statutory resolution plan or debt restructuring scheme in
accordance with any guidelines or directions or regulations specified by the Reserve
Bank of India under the Reserve Bank of India Act, 1934 or the Banking (Regulation)
Act, 1949.
(3) Where any company fails to comply with the provisions of this section, such company
and every officer who is in default shall be liable to a penalty which may extend to an
amount equal to the amount raised through the issue of shares at a discount or five
lakh rupees, whichever is less, and the company shall also be liable to refund all
monies received with interest at the rate of twelve per cent. per annum from the date
of issue of such shares to the persons to whom such shares have been issued .
(ii) he should verify that the Company has not issued any of its shares at a discount by
reading the minutes of meeting of its directors and shareholders authorizing issue of
share capital and the issue price.
(iii) Further, auditor should also verify that in case a company has issued shares at a
discount to its creditors when its debt is converted into shares in pursuance of any
statutory resolution plan or debt restructuring scheme in accordance with any
guidelines or directions or regulations specified by the Reserve Bank of India under
the Reserve Bank of India Act, 1934 or the Banking (Regulation) Act, 1949.

In the given case of Air Space Ltd, it is clear that it can issue shares to its creditors
when its debt is converted into shares in accordance with approved restructuring
scheme.
21. Section 139(1) of the Companies Act, 2013 provides that every company shall, at the first
annual general meeting appoint an individual or a firm as an auditor who shall hold office
from the conclusion of that meeting till the conclusion of its sixth annual general meeting
and thereafter till the conclusion of every sixth meeting.
The following points need to be noted in this regard-
(i) Before such appointment is made, the written consent of the auditor to such
appointment, and a certificate from him or it that the appointment, if made, shall be in
accordance with the conditions as may be prescribed, shall be obtained from the
auditor.
(ii) Under Rule 4 of The Companies (Audit and Auditors) Rules, 2014, the said certificate
shall state the following:-
(a) the individual or the firm, as the case may be, is eligible for appointment and is
not disqualified for appointment under the Act, the Chartered Accountants Act,
1949 and the rules or regulations made thereunder;
(b) the proposed appointment is as per the term provided under the Act;
(c) the proposed appointment is within the limits laid down by or under the authority
of the Act;
(d) the list of proceedings against the auditor or audit firm or any partner of the audit
firm pending with respect to professional matters of conduct, as disclosed in the
certificate, is true and correct.
(iii) The company shall inform the auditor concerned of his or its appointment, and also
file a notice of such appointment with the Registrar within 15 days of the meeting in
which the auditor is appointed.
22. Section 141(3)(i) of the Companies Act, 2013 disqualifies a person for appointment as an
auditor of a company who is engaged as on the date of appointment in consulting and
specialized services as provided in section 144.
Section 144 of the Companies Act, 2013 prescribes certain services not to be rendered
by the auditor. An auditor appointed under this Act shall provide to the company only such
other services as are approved by the Board of Directors or the audit committee, as the
case may be, but which shall not include any of the following services (whether such
services are rendered directly or indirectly to the company or its holding company or
subsidiary company), namely:
(i) accounting and book keeping services;
(ii) internal audit;

(iii) design and implementation of any financial information system;

(iv) actuarial services*;
(v) investment advisory services;
(vi) investment banking services;
(vii) rendering of outsourced financial services;
(viii) management services; and
(ix) any other kind of services as may be prescribed.
*Actuarial services broadly pertain to services relating to evaluation of financial impact of
risks using range of mathematical and statistical methods
In the given situation, CA. Lakshman was appointed as an auditor of Harry Ltd for a term
of 5 years. He was offered additional services of actuarial which was also approved by the
Board of Directors. CA. Lakshman is advised not to accept the services as these services
are specifically notified in the services not to be rendered by him as an auditor as per
section 144 of the Act.
23. Reporting for PPE and Intangible assets - Clause (i) of Para 3 of CARO ,2020, requires
the auditor to include a statement in the auditor’s report on the following matters, namely -
(i) (a) (A) whether the company is maintaining proper records showing full
particulars, including quantitative details and situation of Property, Plant
and Equipment;
(B) whether the company is maintaining proper records showing full particulars
of intangible assets;
(b) whether these Property, Plant and Equipment have been physically verified by
the management at reasonable intervals; whether any material discrepancies
were noticed on such verification and if so, whether the same have been properly
dealt with in the books of account;
(c) whether the title deeds of all the immovable properties (other than properties
where the company is the lessee and the lease agreements are duly executed
in favour of the lessee) disclosed in the financial statements are held in the name
of the company, if not, provide the details thereof in the format below:-
Description Gross Held in Whether Period held Reason for
of property carryin name of promoter, –indicate not being
g value director or their range, held in name
relative or where of company*
employee appropriate
*also indicate
if in dispute

(d) whether the company has revalued its Property, Plant and Equipment (including
Right of Use assets) or intangible assets or both during the year and, if so,
whether the revaluation is based on the valuation by a Registered Valuer;
specify the amount of change, if change is 10% or more in the aggregate of the
net carrying value of each class of Property, Plant and Equipment or intangible
assets;
(e) whether any proceedings have been initiated or are pending against the
company for holding any benami property under the Benami Transactions
(Prohibition) Act, 1988 (45 of 1988) and rules made thereunder, if so, whether
the company has appropriately disclosed the details in its financial statements.
24. The auditor shall evaluate whether the financial statements are prepared in accordance
with the requirements of the applicable financial reporting framework.
This evaluation shall include consideration of the qualitative aspects of the entity’s
accounting practices, including indicators of possible bias in management’s judgements.
In particular, the auditor shall evaluate whether:
(a) The financial statements adequately disclose the significant accounting policies
selected and applied;
(b) The accounting policies selected and applied are consistent with the applicable
financial reporting framework and are appropriate;
(c) The accounting estimates made by management are reasonable;
(d) The information presented in the financial statements is relevant, reliable,
comparable, and understandable;
(e) The financial statements provide adequate disclosures to enable the intended users
to understand the effect of material transactions and events on the information
conveyed in the financial statements; and
(f) The terminology used in the financial statements, including the title of each financial
statement, is appropriate.
Further, when the financial statements are prepared in accordance with a fair presentation
framework, the evaluation mentioned above shall also include an evaluation by the auditor
as to whether the financial statements achieve fair presentation which shall include
consideration of:
(a) The overall presentation, structure and content of the financial statements; and
(b) Whether the financial statements, including the related notes, represent the
underlying transactions and events in a manner that achieves fair presentation.
The auditor shall evaluate whether the financial statements adequately refer to or describe
the applicable financial reporting framework.

25. When the auditor disclaims an opinion on the financial statements due to an inability to
obtain sufficient appropriate audit evidence, the auditor shall amend the description of the
auditor’s responsibilities required by SA 700 (Revised) to include only the following:
(a) A statement that the auditor’s responsibility is to conduct an audit of the entity’s
financial statements in accordance with Standards on Auditing and to issue an
auditor’s report;
(b) A statement that, however, because of the matter(s) described in the Basis for
Disclaimer of Opinion section, the auditor was not able to obtain sufficient appropriate
audit evidence to provide a basis for an audit opinion on the financial statements; and
(c) The statement about auditor independence and other ethical responsibilities required
by SA 700 (Revised).
26. Classification as NPA should be based on the record of recovery. Availability of security
or net worth of borrower/guarantor is not to be taken into account for purpose of treating
an advance as NPA or otherwise. Further, asset classification would be borrower -wise and
not facility-wise. All facilities including investments in securities would be termed as NPA.
There are different provisioning requirements as regards to categories of NPA such as
Sub-standards assets, Doubtful assets and loss assets which are given below:
Categories of Non-Performing Assets: Provision required
(i) Substandard Assets:
Would be one, which has remained NPA for a 15%
period less than or equal to 12 months.
(ii) Doubtful Assets:
Would be one, which has remained in the
substandard category for a period of 12 months.
Secured+ Unsecured
(i) Sub-categories:
Doubtful up to 1 Year (D1) 25% + 100%
Doubtful 1 to 3 Years (D2) 40% + 100%
Doubtful more than 3 Years (D3) 100% + 100%
(ii) Loss Assets:
Would be one, where loss has been identified by
the bank or internal or external auditors or the RBI
inspection but the amount has not been written off 100%
wholly.

27. (a) For audit of operating expenses, the auditor should study and evaluate the system
of internal control relating to expenses, including authorization procedures in order to
determine the nature, timing and extent of his other audit procedures. The auditor
should examine whether there are any divergent trends in respect of major items of
expenses. The auditor should perform substantive analytical procedures in respect of
these expenses. e.g. assess the reasonableness of expenses by working out their
ratio to total operating expenses and comparing it with the corresponding figures for
previous years. The auditor should also verify expenses with reference to supporting
documents and check the calculations wherever required.
(b) For audit of Provisions and contingencies, the auditor should ensure that the
compliances for various regulatory requirements for provisioning as contained in the
various circulars have been fulfilled. The auditor should obtain an understanding as
to how the bank computes provision on standard assets and non-performing assets.
It will primarily include checking the basis of classification of loans and receivables
into standard, sub-standard, doubtful, loss and non-performing assets. The auditor
may verify the loan classification on a sample basis.
The auditor should obtain the detailed break up of standard loans, non -performing
loans and agree the outstanding balances with the general ledger. The auditor should
obtain the tax provision computation from the bank’s management and verify the
nature of items debited and credited to profit and loss account to ascertain that the
same are appropriately considered in the tax provision computation. The other
provisions for expenses should be examined vis-a-vis the circumstances warranting
the provisioning and the adequacy of the same by discussing and obtaining the
explanations from the bank’s management.
28. (a) Pilfering is one of the greatest problems in any hotel and the importance of internal
control cannot be undermined. It is the responsibility of management to introduce
controls which will minimise the leakage as far as possible. Evidence of their success
is provided by the preparation of regular perhaps weekly, trading accounts for each
sales point and a detailed scrutiny of the resulting profit percentages, with any
deviation from the anticipated form being investigated. The auditor should obtain
these regular trading accounts for the period under review, examine them and obtain
explanations for any apparent deviations.
The auditor should verify a few restaurant bills by reference to K.O.T.s (Kitchen Order
Tickets) or basic record. This would enable the auditor to ensure that c ontrols
regarding revenue cycle are in order.
The auditor should satisfy himself that all taxes collected from occupants on food and
occupation have been paid over to the proper authorities. If the internal control in a
hotel is weak or perhaps breaks down, then a very serious problem exists for the
auditor. As a result of the transient nature of many of his clients’ records, the auditor
must rely to a very large extent on the gross margin shown by the accounts. As a

result, the scope of his audit tests will necessarily be increased and, in the event of a
material margin discrepancy being unexplained, he will have to consider qualifying
his audit report.
(b) Inspection of Multi-State Co-operative societies under Section 79
1. When: The Central Registrar may, on a request from
(i) federal co-operative to which a Multi-State Co-operative society is
affiliated or a creditor or
(ii) not less than one-third of the members of the board or
(iii) not less than one-fifth of the total number of members of a Multi-State
co-operative society
2. How: By general or special order in writing in this behalf inspect or direct any
person authorized by him by order in writing in this behalf to make an inspection
into the constitution, working and financial condition of a Multi-State co-operative
society.
3. Opportunity of Being heard: No inspection shall be made unless a notice of
not less than fifteen days has been given to the multi-state co-operative society.
4. Powers available: The Central Registrar or the person authorized by him shall
have the following powers:
(a) He shall at all times have access to all books, accounts, papers, vouchers,
securities, stock and other property of that society and may, in the event of
serious irregularities discovered during inspection, take them into custody
and shall have power to verify the cash balance of the society and subject
to the general or special order of the central registrar to call a meeting of
the society where such general meeting is, in his opinion necessary.
(b) Every officer or member of a Multi-State Co-operative society shall furnish
such information with regard to the working of the society as the central
registrar or the person making such inspection may require.
5. Inspection Report: A copy of the report of inspection under this section shall
be communicated to the Multi-State Co-operative society within a period of three
months from the date of completion of such inspection.

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PART – I : ACADEMIC UPDATE (Legislative Amendments / Notifications / Circulars / Rules /
Guidelines issued by Regulating Authority)
Chapter 5- Fraud and Responsibilities of the Auditor in this Regard
Chapter- 9: Audit of Items of Financial Statements (Amendment at Page No. 9.11 only and
not complete chapter)
Chapter 10- Company Audit
CHAPTER 5
FRAUD AND RESPONSIBILITIES OF THE
AUDITOR IN THIS REGARD
LEARNING OUTCOMES
After studying this chapter, you will be able to:
❑ Understand the types of errors and frauds.
❑ Definition of fraud as given under the Standards on Auditing and
its meaning.
❑ Understand reasons behind management/ employees
committing fraud/ error.
❑ Analyse the duty of an auditor regarding detection of fraud and error.
❑ Determine fraud risk factors and circumstances relating to
possibility of fraud.
❑ Understand responsibility of an auditor in case of withdrawal from the
engagement if encounter any circumstances that bring into question his
ability to continue due to fraud.
2 INTERMEDIATE (NEW) EXAMINATION: NOVEMBER, 2021
1. MEANING OF FRAUD
The Standard on Auditing (SA) 240 “The Auditor’s Responsibilities Relating to
Fraud in an Audit of Financial Statements” defines the term ‘fraud’ as-
“an intentional act by one or more individuals among management, those
charged with governance, employees, or third parties, involving the use of
deception to obtain an unjust or illegal advantage”.
Although fraud is a broad legal concept, for the purposes of the SAs, the
auditor is concerned with fraud that causes a material misstatement in
the financial statements.
Two types of intentional misstatements are relevant to the auditor–
 misstatements resulting from fraudulent financial reporting and
 misstatements resulting from misappropriation of assets.

Although the auditor may suspect or, in rare cases, identify the occurrence of
fraud, the auditor does not make legal determinations of whether fraud has
actually occurred.
2. CHARACTERISTICS OF FRAUD
2.1 Fraud is Intentional
Misstatements in the financial statements can arise from either fraud or error.
The distinguishing factor between fraud and error is whether the underlying
action that results in the misstatement of the financial statements is intentional
or unintentional.
2.2 Fraud is a broad legal concept

The auditor is concerned with fraud that causes a material misstatement in the
financial statements.
Fraud, whether fraudulent financial reporting or misappropriation of

assets, involves incentive or pressure to commit fraud, a perceived
opportunity to do so and some rationalization of the act. For example:
 Incentive or pressure to commit fraudulent financial reporting may exist
when management is under pressure, from sources outside or inside the
entity, to achieve an expected (and perhaps unrealistic) earnings target or
financial outcome.
 A perceived opportunity to commit fraud may exist when an individual
believes internal control can be overridden, for example, because the
individual is in a position of trust or has knowledge of specific deficiencies

in internal control.
 Individuals may be able to rationalize committing a fraudulent act. Some
individuals possess an attitude, character or set of ethical values that allow
them knowingly and intentionally to commit a dishonest act. However,
even otherwise, honest individuals can commit fraud in an environment
that imposes sufficient pressure on them.
2.2.1 Fraudulent financial reporting involves intentional
misstatements including omissions of amounts or disclosures in
financial statements to deceive financial statement users.
Fraudulent financial reporting may be accomplished by the following:
Manipulation, falsification (including forgery), or alteration of accounting

records or supporting documentation from which the financial statements are
prepared.
Manipulation of Accounts: Detection of manipulation of accounts with a view
to presenting a false state of affairs is a task requiring great tact and intelligence
because generally management personnel in higher management cadre are
associated with this type of fraud and this is perpetrated in methodical way. This
type of fraud is generally committed:
(c) to withhold declaration of dividend even when there is adequate profit
(this is often done to manipulate the value of shares in stock market to
make it possible for selected persons to acquire shares at a lower cost);
and
(d) for receiving higher remuneration where managerial remuneration is

payable by reference to profits.
There are numerous ways of committing this type of fraud. Some of the
methods are given below:
(i) inflating or suppressing purchases and expenses;
(ii) inflating or suppressing sales and other items of income,
(iii) inflating or deflating the value of closing inventory;
(iv) failing to adjust outstanding liabilities or prepaid expenses; and
(v) charging items of capital expenditure to revenue or by capitalising
revenue expenses.
Misrepresentation in or intentional omission from, the financial statements of
events, transactions or other significant information.
Intentional misapplication of accounting principles relating to amounts,
classification, manner of presentation, or disclosure.
Fraudulent financial reporting often involves management override of
controls that otherwise may appear to be operating effectively. Fraud can
be committed by management overriding controls using such techniques as:
 Recording fictitious journal entries, particularly close to the end of an

accounting period, to manipulate operating results or achieve other
objectives.
 Inappropriately adjusting assumptions and changing judgments used to
estimate account balances.
 Omitting, advancing or delaying recognition in the financial statements of

events and transactions that have occurred during the reporting period.
 Concealing, or not disclosing, facts that could affect the amounts
recorded in the financial statements.
 Engaging in complex transactions that are structured to misrepresent the
financial position or financial performance of the entity.
 Altering records and terms related to significant and unusual transactions.
Why do Management/ Employees commit fraud? What induces
Management/ Employees to commit fraud? Following are certain instances
which will help to understand these questions:
 Financial obligations/ Pressure.

 Management’s unrealistic goals.
 Dissatisfied Employees or Lack of motivation among employees.
 Name game (eg. management using power of authority by asking
employees to do something illegal).
 Opportunity to commit fraud.
2.2.2 Misappropriation of Assets:

It involves the theft of an entity’s assets and is often perpetrated by employees
in relatively small and immaterial amounts.
However, it can also involve management who
are usually more able to disguise or conceal
misappropriations in ways that are difficult to
detect. Misappropriation of assets can be
accomplished in a variety of ways including:
 Embezzling receipts (for example,
Fig.: Theft of Assets
misappropriating collections on
accounts receivable or diverting receipts in respect of written-off accounts
to personal bank accounts).
 Stealing physical assets or intellectual property (for example, stealing
inventory for personal use or for sale, stealing scrap for resale, colluding
with a competitor by disclosing technological data in return for payment).
 Causing an entity to pay for goods and services not received (for example,
payments to fictitious vendors, kickbacks paid by vendors to the entity’s
purchasing agents in return for inflating prices, payments to fictitious
employees).
 Using an entity’s assets for personal use (for example, using the entity’s
assets as collateral for a personal loan or a loan to a related party).
Example
Vineet is a manager in Zed Ex Ltd. He is having authority to sign cheques up to
` 10,000. While performing the audit, Rajan, the auditor, noticed that there were
many cheques of ` 9,999 which had been signed by Vineet. Further Vineet had
split large payments (amounting to more than ` 10,000 each, into two or more
cheques less than ` 10,000 each so that he may authorize the payments). This
raised suspicion in the auditor’s mind.
The auditor found that the cheques of ` 9,999 were deposited in Vineet’s
personal account i.e. Vineet had misappropriated the amount.
Splitting the cheques into lower amounts involves manipulation of accounts.
The fraud was committed by an employee.
Misappropriation of assets is often

accompanied by false or misleading records
or documents in order to conceal the fact
that the assets are missing or have been
pledged without proper authorization. 1
2.2.2.1 Misappropriation of Goods
Fraud in the form of misappropriation of
goods is still more difficult to detect; for
this, management has to rely on various
measures. Apart from the various
requirements of record keeping about the Fig.: Theft of Goods*
physical quantities and their periodic
checks, there must be rules and procedures for allowing persons inside the area
where goods are kept. In addition there should be external security
arrangements to see that no goods are taken out without proper authority.
Goods can be anything in the premises; it may be machinery. It may even be
the daily necessities of the office like stationery. The goods may be removed by
subordinate employees or even by persons quite higher up in the management.
Auditors can detect this by undertaking a thorough and strenuous checking of
records followed by physical verification process. Also, by resorting to
intelligent ratio analysis, auditors may be able to form an idea whether such
fraud exists.
Therefore, it is clear from the above that the ‘fraud’ deals with intentional
misrepresentation but, ‘error’, on the other hand, refers to unintentional
mistakes in financial information.
Intentional errors are most difficult to detect and auditors generally devote
greater attention to this type because out of long and sometimes unfortunate
experience, auditors have developed a point of view that, if they direct their
procedures of discovering the more difficult intentional errors, they are
reasonably certain to locate the more simple and far more common
unintentional errors on the way.
*
Source of image: www.clipartster.com
2.2.2.2 Defalcation of Cash

Defalcation of cash has been found to perpetrate generally in the following
ways:
(a) By inflating cash payments:

Examples of inflation of payments:
(1) Making payments against fictitious vouchers.
(2)Making payments against vouchers, the amounts whereof have been
inflated.
(3) Manipulating totals of wage rolls either by including therein names
of dummy workers or by inflating them in any other manner.
(4) Casting a larger totals for petty cash expenditure and adjusting the
excess in the totals of the detailed columns so that cross totals show
agreement.
(b) By suppressing cash receipts:
Few techniques of how receipts are suppressed are:
(1) Teeming and Lading: Amount received from a customer being
misappropriated; also to prevent its detection the money received
from another customer subsequently being credited to the account
of the customer who has paid earlier. Similarly, moneys received
from the customer who has paid thereafter being credited to the
account of the second customer and such a practice is continued so
that no one account is outstanding for payment for any length of
time, which may lead the management to either send out a
statement of account to him or communicate with him.
(2) Adjusting unauthorised or fictitious rebates, allowances, discounts,

etc. to customer’ accounts and misappropriating amount paid by
them.
(3) Writing off as debts in respect of such balances against which cash
has already been received but has been misappropriated.
(5) Not accounting for miscellaneous receipts, e.g., sale of scrap,
quarters allotted to the employees, etc.
(6) Writing down asset values in entirety, selling them subsequently and
misappropriating the proceeds.
(c) By casting wrong totals in the cashbook.
3. DETECTION OF FRAUD AND ERROR–DUTY

OF AN AUDITOR
As per SA 240 “The Auditor’s
Responsibilities Relating to Fraud in
an Audit of Financial Statements”,
the primary responsibility for the
prevention and detection of fraud
rests with both those charged with
governance of the entity and
management. It is important that
management, with the oversight of Fig.: Meticulous Analysis by Auditor for
detection of Fraud/Error***
those charged with governance,
place a strong emphasis on fraud prevention, which may reduce opportunities
for fraud to take place, and fraud deterrence, which could persuade individuals
not to commit fraud because of the likelihood of detection and punishment.
This involves a commitment to creating a culture of honesty and ethical
behavior which can be reinforced by an active oversight by those charged with
governance.
Broadly, the general principles laid down in the SA may be noted as under:
1. An auditor conducting an audit in accordance with SAs is responsible for
obtaining reasonable assurance that the financial statements taken as a whole
are free from material misstatement, whether caused by fraud or error. As

described in SA200, “Overall Objectives of the Independent Auditor and
the Conduct of an Audit in Accordance with Standards on Auditing,”
owing to the inherent limitations of an audit, there is an unavoidable risk that
some material misstatements of the financial statements will not be detected,
even though the audit is properly planned and performed in accordance with
the SAs.
2. The risk of not detecting a material misstatement resulting from fraud is
higher than the risk of not detecting one resulting from error. This is because,
fraud may involve sophisticated and carefully organized schemes designed
to conceal it, such as forgery, deliberate failure to record transactions, or
intentional misrepresentations being made to the auditor. Such attempts at
concealment may be even more difficult to detect when accompanied by
collusion. Collusion may cause the auditor to believe that audit evidence is
persuasive when it is, in fact, false. The auditor’s ability to detect a fraud
depends on factors such as the skillfulness of the perpetrator, the frequency
and extent of manipulation, the degree of collusion involved, the relative size
of individual amounts manipulated, and the seniority of those individuals
involved. While the auditor may be able to identify potential opportunities
for fraud to be perpetrated, it is difficult for the auditor to determine whether
misstatements in judgment areas such as accounting estimates are caused
by fraud or error.
3. Furthermore, the risk of the auditor not detecting a material misstatement
resulting from management fraud is greater than for employee fraud,
because management is frequently in a position to directly or indirectly
manipulate accounting records, present fraudulent financial information
or override control procedures designed to prevent similar frauds by
other employees.
4. When obtaining reasonable assurance, the auditor is responsible for
maintaining an attitude of professional skepticism throughout the audit,
considering the potential for management override of controls and
recognizing the fact that audit procedures that are effective for detecting
error may not be effective in detecting fraud. The requirements in this SA are
designed to assist the auditor in identifying and assessing the risks of
material misstatement due to fraud and in designing procedures to detect
such misstatement.
Case Study 1
While auditing XYZ Ltd., the auditor was told by Mr. Mahesh, the CEO of
the company, that he would be responsible for the fraud & errors, if any,
occurring in the books of accounts of the company.
Auditor’s Responsibilities for Detection of Fraud and Error: As per SA 240
“The Auditor’s Responsibilities relating to fraud in an audit of Financial
Statements”, an auditor conducting an audit in accordance with SAs is
responsible for obtaining reasonable assurance that the financial statements
taken as a whole are free from material misstatement, whether caused by fraud
or error.
Owing to the inherent limitations of an audit, there is an unavoidable risk that
the SAs.
When obtaining reasonable assurance, the auditor is responsible for maintaining
an attitude of professional skepticism throughout the audit, considering the
potential for management override of controls and recognizing the fact that audit
procedures that are effective for detecting error may not be effective in detecting
fraud.
An auditor conducting an audit in accordance with SAs is responsible for
are free from material misstatement, whether caused by fraud or error.
The auditor also has the responsibility to communicate the misstatement to the
appropriate level of management on a timely basis and consider the need to
report to it to those charged with governance. He may also obtain legal advice
before reporting on the financial information or before withdrawing from the
engagement. The auditor should satisfy himself that the effect of fraud is
properly reflected in the financial information or the error is corrected in case
the modified procedures performed by the auditor confirms the existence of
the fraud.
The auditor should also consider the implications of the frauds and errors, and
frame his report appropriately. In case of a fraud, the same should be disclosed
in the financial statement. If adequate disclosure is not made, there should be
a suitable disclosure in his audit report.
Case Study 2
After the completion of statutory audit of ABC Ltd., a fraud was detected
at the office of the auditee. The management of the company alleged that
there is a failure on the part of the auditor to detect fraud and that auditor
would be responsible for not detecting fraud in the company.
Detection of Fraud after Completion of Statutory Audit: As per SA 240, the
primary responsibility for the prevention and detection of fraud rests with both
those charged with governance of the entity and management. It is important
that management, with the oversight of those charged with governance, place
a strong emphasis on fraud prevention, which may reduce opportunities for
fraud to take place, and fraud deterrence, which could persuade individuals not
to commit fraud because of the likelihood of detection and punishment. Such
a system reduces but does not eliminate the possibility of fraud and error.
are free from material misstatement, whether caused by fraud or error. Owing to
the inherent limitations of an audit, there is an unavoidable risk that some
material misstatements of the financial statements will not be detected, even
though the audit is properly planned and performed in accordance with the SAs.
The risk of not detecting a material misstatement resulting from fraud is higher
than the risk of not detecting one resulting from error. This is because fraud may
involve sophisticated and carefully organized schemes designed to conceal it,
such as forgery, deliberate failure to record transactions, or intentional
misrepresentations being made to the auditor. Such attempts at concealment
may be even more difficult to detect when accompanied by collusion.
The subsequent discovery of material misstatement of the financial information
resulting from fraud or error existing during the period covered by the auditor’s
report does not, in itself, indicate that whether the auditor has adhered to the
basic principles governing an audit. The question of whether the auditor has
adhered to the basic principles governing an audit (such as performance of the
audit work with requisite skills and competence, documentation of important
matters, details of the audit plan and reliance placed on internal controls, nature
and extent of compliance and substantive tests carried out, etc.) is determined
by the adequacy of the procedures undertaken in the circumstances and the
suitability of the auditor’s report based on the results of these procedures.
The liability of the auditor for failure to detect fraud exists only when such failure is
clearly due to not exercising reasonable care and skill. Thus, in the instant case, after
the completion of the statutory audit, if a fraud has been detected, the same by itself
can not mean that the auditor did not perform his duty properly. If the auditor can
prove with the help of his papers (documentation) that he has followed adequate
procedures necessary for the proper conduct of an audit, he cannot be held
responsible for the same. If however, the same cannot be proved, he would be held
responsible.
4. FRAUD RISK FACTORS AND POSSIBILITY

OF FRAUD
SA 240, further, explains by way of examples, certain risk factors and
circumstances relating to possibility of fraud as may be considered by the
auditor which are dealt in the following paragraphs.
4.1 Fraud Risk Factors

Fraud Risk Factors may be defined as events or conditions that indicate an
incentive or pressure to commit fraud or provide an opportunity to commit
fraud.
Examples of Fraud Risk Factors: The fraud risk factors identified here are
examples of such factors that may be faced by auditors in a broad range of
situations. Separately presented are examples relating to the two types of fraud
relevant to the auditor’s consideration, i.e.,
(A) fraudulent financial reporting, and
(B) misappropriation of assets.
For each of these types of fraud, the risk factors are further classified based on
the three conditions generally present when material misstatements due to
fraud occur:
(a) incentives/pressures,
(b) opportunities, and
(c) attitudes/rationalizations.
Although the risk factors cover a broad range of situations, they are only
examples and, accordingly, the auditor may identify additional or different risk
factors. Not all of these examples are relevant in all circumstances, and some
may be of greater or lesser significance in entities of different size or with
different ownership characteristics or circumstances. Also, the order of the
examples of risk factors provided is not intended to reflect their relative
importance or frequency of occurrence.
(A) Risk Factors Relating to Misstatements Arising from Fraudulent
Financial Reporting: The following are examples of risk factors relating to
misstatements arising from fraudulent financial reporting-
Incentives/Pressures: Financial stability or profitability is threatened by
economic, industry, or entity operating conditions, such as (or as indicated by):
1. High degree of competition or market saturation, accompanied by
declining margins.
2. High vulnerability to rapid changes, such as changes in technology,
product obsolescence, or interest rates.
3. Significant declines in customer demand and increasing business failures
in either the industry or overall economy.
4. Operating losses making the threat of bankruptcy, foreclosure, or hostile
takeover imminent.
5. Recurring negative cash flows from operations or an inability to generate

cash flows from operations while reporting earnings and earnings growth.
6. New accounting, statutory, or regulatory requirements.
Opportunities: The nature of the industry or the entity’s operations provides
opportunities to engage in fraudulent financial reporting that can arise from
the following:
1. Significant related-party transactions not in the ordinary course of
business or with related entities not audited or audited by another firm.
2. A strong financial presence or ability to dominate a certain industry sector
that allows the entity to dictate terms or conditions to suppliers or
customers that may result in inappropriate or non-arm’s-length
transactions.
3. Assets, liabilities, revenues, or expenses based on significant estimates
that involve subjective judgments or uncertainties that are difficult to
corroborate.
4. Significant, unusual, or highly complex transactions, especially those close
to period end that pose difficult “substance over form” questions.
5. Significant bank accounts or subsidiary or branch operations in tax-haven
jurisdictions for which there appears to be no clear business justification.
Attitudes/Rationalizations: Communication, implementation, support, or
enforcement of the entity’s values or ethical standards by management, or the
communication of inappropriate values or ethical standards, that are not
effective.
1. Known history of violations of securities laws or other laws and
regulations.
2. Excessive interest by management in maintaining or increasing the
entity’s inventory price or earnings trend.
3. Management failing to remedy known significant deficiencies in internal
control on a timely basis.
4. An interest by management in employing inappropriate means to
minimize reported earnings for tax-motivated reasons.
5. The owner-manager makes no distinction between personal and business

transactions.
6. The relationship between management and the current or predecessor
auditor is strained, as exhibited by the following:
• Frequent disputes with the current or predecessor auditor on
accounting, auditing, or reporting matters.
• Unreasonable demands on the auditor, such as unrealistic time
constraints regarding the completion of the audit or the issuance of
• Restrictions on the auditor that inappropriately limit access to
people or information or the ability to communicate effectively with
those charged with governance.
• Domineering management behavior in dealing with the auditor,
especially involving attempts to influence the scope of the auditor’s
work or the selection or continuance of personnel assigned to or
consulted on the audit engagement.
(B) Risk Factors Arising from Misstatements Arising from
Misappropriation of Assets: Risk factors that relate to misstatements arising
from misappropriation of assets are also classified according to the three
conditions generally present when fraud exists: incentives/ pressures,
opportunities, and attitudes/ rationalization. Some of the risk factors related to
misstatements arising from fraudulent financial reporting also may be present
when misstatements arising from misappropriation of assets occur.
The following are examples of risk factors related to misstatements arising
from misappropriation of assets-
Incentives/Pressures: Personal financial obligations may create pressure on
management or employees with access to cash or other assets susceptible to
theft to misappropriate those assets.
Adverse relationships between the entity and employees with access to cash or
other assets susceptible to theft may motivate those employees to
misappropriate those assets. For example, adverse relationships may be created
by the following:
1. Known or anticipated future employee layoffs.
2. Recent or anticipated changes to employee compensation or benefit

plans.
3. Promotions, compensation, or other rewards inconsistent with
expectations.
Opportunities: Certain characteristics or circumstances may increase the
susceptibility of assets to misappropriation. For example, opportunities to
misappropriate assets increase when there are the following:
1. Large amounts of cash on hand or processed.
2. Inventory items that are small in size, of high value, or in high demand.
3. Easily convertible assets, such as bearer bonds, diamonds, or computer
chips.
4. Fixed assets which are small in size, marketable, or lacking observable
identification of ownership.
Inadequate internal control over assets may increase the susceptibility of
misappropriation of those assets. For example, misappropriation of assets
may occur because there is the following:
 Inadequate segregation of duties or independent checks.
 Inadequate oversight of senior management expenditures, such as travel
and other reimbursements.
 Inadequate record keeping with respect to assets.
 Inadequate system of authorization and approval of transactions (for
example, in purchasing).
 Inadequate physical safeguards over cash, investments, inventory, or fixed
assets.
 Lack of complete and timely reconciliations of assets.
 Lack of timely and appropriate documentation of transactions, for
example, credits for merchandise returns.
 Lack of mandatory vacations for employees performing key control
functions.
 Inadequate management understanding of information technology,

which enables information technology employees to perpetrate a
misappropriation.
 Inadequate access controls over automated records, including controls
over and review of computer systems event logs.
Attitudes/Rationalizations: Disregard for the need for monitoring or reducing
risks related to misappropriations of assets.
 Disregard for internal control over misappropriation of assets by
overriding existing controls or by failing to take appropriate remedial
action on known deficiencies in internal control.
 Behavior indicating displeasure or dissatisfaction with the entity or its
treatment of the employee.
 Changes in behavior or lifestyle that may indicate assets have been
misappropriated
 Tolerance of petty theft.
4.2 Circumstances Relating to Possibility of Fraud

Examples of circumstances that indicate the possibility of fraud: The
following are examples of circumstances that may indicate the possibility that
the financial statements may contain a material misstatement resulting from
fraud-
(A) Discrepancies in the accounting records, including:

• Transactions that are not recorded in a complete or timely manner
or are improperly recorded as to amount, accounting period,
classification, or entity policy.
• Unsupported or unauthorized balances or transactions.
• Last-minute adjustments that significantly affect financial results.
• Evidence of employees’ access to systems and records inconsistent
with that necessary to perform their authorized duties.
• Tips or complaints to the auditor about alleged fraud.
(B) Conflicting or missing evidence, including:
• Missing documents.
• Documents that appear to have been altered.
• Significant unexplained items on reconciliations.
• Unusual discrepancies between the entity’s records and confirmation
replies.
• Large numbers of credit entries and other adjustments made to
accounts receivable records.
• Missing or non-existent cancelled cheques in circumstances where
cancelled cheques are ordinarily returned to the entity with the bank
statement.
• Missing inventory or physical assets of significant magnitude.
• Unavailable or missing electronic evidence, inconsistent with the
entity’s record retention practices or policies.
Example
Raj is the auditor of XYZ Ltd. Raj is analysing the financial statements of the
company by studying significant ratios. Some of the ratios that he studied were
the gross profit ratio and net profit ratio. The gross profit ratio for the current
year 2019-20 is 19% and for the previous year 2018-19 was 25%. Similarly, net
profit ratio for the current year 2019-20 is 7%, where as in previous year 2018-
19 it was 11%.
There is a large variation in the gross profit ratio and net profit ratio over the
two years. Hence, the auditor has reason to believe that there may be
something unusual. He will consider the results of such analytical procedures
while drawing up his audit plan and allot more time to studying purchases.
Example
Analytical procedures exhibiting unusual ratios and trend e.g. unusually large
transactions reported in the last month of the reporting period.
(C) Problematic or unusual relationships between the auditor and

management, including:
• Denial of access to records, facilities, certain employees, customers,
vendors, or others from whom audit evidence might be sought.
• Undue time pressures imposed by management to resolve complex
or contentious issues.
• Unusual delays by the entity in providing requested information.
• Unwillingness to facilitate auditor access to key electronic files for
testing through the use of computer-assisted audit techniques.
• Denial of access to key IT operations staff and facilities, including
security, operations, and systems development personnel.
• An unwillingness to add or revise disclosures in the financial
statements to make them more complete and understandable.
• An un willingness to address identified deficiencies in internal
(D) Other
• Unwillingness by management to permit the auditor to meet
privately with those charged with governance.
• Accounting policies that appear to be at variance with industry
norms.
• Frequent changes in accounting estimates that do not appear to
result from changed circumstances.
• Tolerance of violations of the entity’s Code of Conduct.
5. FRAUD REPORTING
Reporting to the Central Government: As per sub-section (12) of section 143
of the Companies Act, 2013, if an auditor of a company in the course of the
performance of his duties as auditor, has reason to believe that an offence of
fraud involving such amount or amounts as may be prescribed, is being or has
been committed in the company by its officers or employees, the auditor shall
report the matter to the Central Government within such time and in such
manner as may be prescribed.
In this regard, Rule 13 of the Companies (Audit and Auditors) Rules, 2014 has
been prescribed. Sub-rule (1) of the said rule states that if an auditor of a
company, in the course of the performance of his duties as statutory auditor,
has reason to believe that an offence of fraud, which involves or is expected to
involve individually an amount of ` 1 crore or above, is being or has been
committed against the company by its officers or employees, the auditor shall
report the matter to the Central Government.
The manner of reporting the matter to the Central Government is as
follows:
(a) the auditor shall report the matter to the Board or the Audit Committee,
as the case may be, immediately but not later than 2 days of his
knowledge of the fraud, seeking their reply or observations within 45 days;
(b) on receipt of such reply or observations, the auditor shall forward his
report and the reply or observations of the Board or the Audit Committee
along with his comments (on such reply or observations of the Board or
the Audit Committee) to the Central Government within 15 days from the
date of receipt of such reply or observations;
(c) in case the auditor fails to get any reply or observations from the Board
or the Audit Committee within the stipulated period of 45 days, he shall
forward his report to the Central Government along with a note
containing the details of his report that was earlier forwarded to the Board
or the Audit Committee for which he has not received any reply or
observations;
(d) the report shall be sent to the Secretary, Ministry of Corporate Affairs in
a sealed cover by Registered Post with Acknowledgement Due or by Speed
Post followed by an e-mail in confirmation of the same;
(e) the report shall be on the letter-head of the auditor containing postal
address, e-mail address and contact telephone number or mobile number
and be signed by the auditor with his seal and shall indicate his
Membership Number; and
(f) the report shall be in the form of a statement as specified in Form ADT-4.
II. Reporting to the Audit Committee or Board: Sub-section (12) of
section 143 of the Companies Act, 2013 further prescribes that in case of a fraud
involving lesser than the specified amount [i.e. less than ` 1 crore], the auditor
shall report the matter to the audit committee constituted under section 177 or
to the Board in other cases within such time and in such manner as may be
prescribed.
In this regard, sub-rule (3) of Rule 13 of the Companies (Audit and Auditors)
Rules, 2014 states that in case of a fraud involving lesser than the amount
specified in sub- rule (1) [i.e. less than ` 1 crore], the auditor shall report the
matter to Audit Committee constituted under section 177 or to the Board
immediately but not later than 2 days of his knowledge of the fraud and he shall
report the matter specifying the following:
(a) Nature of Fraud with description;
(b) Approximate amount involved; and
(c) Parties involved.
III Disclosure in the Board’s Report: Sub-section (12) of section 143 of

the Companies Act, 2013 furthermore prescribes that the companies, whose
auditors have reported frauds under this sub-section (12) to the audit
committee or the Board, but not reported to the Central Government, shall
disclose the details about such frauds in the Board’s report in such manner as
may be prescribed.
Rules, 2014 states that the auditor is also required to disclose in the Board’s
Report the following details of each of the fraud reported to the Audit
Committee or the Board under sub- rule (3) during the year:
(b) Approximate Amount involved;
(c) Parties involved, if remedial action not taken; and
(d) Remedial actions taken.
Sub-section (13) of section 143 of the Companies Act, 2013 safeguards the act
of fraud reporting by the auditor if it is done in good faith. It states that no duty
to which an auditor of a company may be subject to shall be regarded as having
been contravened by reason of his reporting the matter above if it is done in
good faith.
It is very important to note that these provisions shall also apply, mutatis
mutandis, to a cost auditor and a secretarial auditor during the
performance of his duties under section 148 and section 204 respectively. If
any auditor, Cost Accountant, or company secretary in practice does not comply
with the provisions of sub-section (12), he shall,—.
(a) in case of a listed company, be liable to a penalty of five lakh rupees; and
(b) in case of any other company, be liable to a penalty of one lakh rupees.
Reporting on Frauds already detected and reported: The auditor should
apply professional skepticism to evaluate/verify that the fraud was indeed
identified/detected in all aspects by the management or through the company’s
vigil/whistle blower mechanism so that distinction can be clearly made with
respect to frauds identified/detected due to matters raised by the auditor vis-
à-vis those identified/detected by the company through its internal control
mechanism.
Since reporting on fraud under section 143(12) is required even by the cost
auditor and the secretarial auditor of the company, it is possible that a
suspected offence involving fraud may have been reported by them even before
the auditor became aware of the fraud. Here too, if a suspected offence of fraud
has already been reported under section 143(12) by such other person, and the
auditor becomes aware of such suspected offence involving fraud, he need not
report the same since he has not per se identified the suspected offence of
fraud.
However, in case of a fraud which involves or is expected to involve individually,
an amount of ` 1 crore or more, the auditor should review the steps taken by
the management/those charged with governance with respect to the reported
instance of suspected offence of fraud stated above, and if he is not satisfied
with such steps, he should state the reasons for his dissatisfaction in writing and
request the management/ those charged with governance to perform
additional procedures to enable the auditor to satisfy himself that the matter
has been appropriately addressed. If the management/those charged with
governance fail to undertake appropriate additional procedures within 45 days
of his request, the auditor would need to evaluate if he should report the matter
to the Central Government in accordance with Rule 13 of the Companies (Audit
and Auditors) Rules, 2014.
Reporting under Companies (Auditor’s Report) Order, 2016 [CARO, 2016]:

The auditor is also required to report under clause (x) of paragraph 3 of
Companies (Auditor’s Report) Order, 2016, whether any fraud by the company
or any fraud on the Company by its officers or employees has been noticed or
reported during the year. If yes, the nature and the amount involved is to be
indicated.
The scope of auditor’s inquiry under this clause is restricted to frauds ‘noticed
or reported’ during the year. It may be noted that this clause of the Order, by
requiring the auditor to report whether any fraud by the company or on the
company by its Officer or employees has been noticed or reported, does not
relieve the auditor from his responsibility to consider fraud and error in an audit
of financial statements. In other words, irrespective of the auditor’s comments
under this clause, the auditor is also required to comply with the requirements
of SA 240, “The Auditor’s Responsibility Relating to Fraud in an Audit of
Financial Statements”.
Audit Procedures and Reporting under CARO:
(1) While planning the audit, the auditor should discuss with other members
of the audit team, the susceptibility of the company to material
misstatements in the financial statements resulting from fraud. While
planning, the auditor should also make inquiries of management to
determine whether management is aware of any known fraud or
suspected fraud that the company is investigating.
(2) The auditor should examine the reports of the internal auditor with a view
to ascertain whether any fraud has been reported or noticed by the
management. The auditor should examine the minutes of the audit
committee, if available, to ascertain whether any instance of fraud
pertaining to the company has been reported and actions taken thereon.
The auditor should enquire from the management about any frauds on
the company that it has noticed or that have been reported to it. The
auditor should also discuss the matter with other employees including
officers of the company. The auditor should also examine the minute book
of the board meeting of the company in this regard.
(3) The auditor should obtain written representations from management that:
(i) it acknowledges its responsibility for the implementation and
operation of accounting and internal control systems that are
designed to prevent and detect fraud and error;
(ii) it believes the effects of those uncorrected misstatements in
financial statements, aggregated by the auditor during the audit are
immaterial, both individually and in the aggregate, to the financial
statements taken as a whole. A summary of such items should be
included in or attached to the written representation;
(iii) it has
(a) disclosed to the auditor all significant facts relating to any
frauds or suspected frauds known to management that may
have affected the entity; and
(b) it has disclosed to the auditor the results of its assessment of
the risk that the financial statements may be materially
misstated as a result of fraud.
4. Because management is responsible for adjusting the financial statements
to correct material misstatements, it is important that the auditor obtains
written representation from management that any uncorrected
misstatements resulting from fraud are, in management’s opinion,
immaterial, both individually and in the aggregate. Such representations
are not a substitute for obtaining sufficient appropriate audit evidence. In
some circumstances, management may not believe that certain of the
uncorrected financial statement misstatements aggregated by the auditor
during the audit are misstatements. For that reason, management may
want to add to their written representation words such as, “We do not
agree that items constitute misstatements because [description of
reasons].”
The auditor should consider if any fraud has been reported by them
during the year under section 143(12) of the Act and if so whether that
same would be reported under this Clause. It may be mentioned here that
section 143(12) of the Act requires the auditor to have reasons to believe
that a fraud is being committed or has been committed by an employee
or officer. In such a case the, auditor needs to report to the Central
Government or the Audit Committee. However, this Clause will include

only the reported frauds and not suspected fraud.
5. Where the auditor notices that any fraud by the company or on the
company by its officers or employees has been noticed by or reported
during the year, the auditor should, apart from reporting the existence of
fraud, also required to report, the nature of fraud and amount involved.
For reporting under this clause, the auditor may consider the following:
(i) This clause requires all frauds noticed or reported during the year
shall be reported indicating the nature and amount involved. As
specified the fraud by the company or on the company by its officers
or employees are only covered.
(ii) Of the frauds covered under section 143(12) of the Act, only noticed
frauds shall be included here and not the suspected frauds.
(iii) While reporting under this clause with regard to the nature and the
amount involved of the frauds noticed or reported, the auditor may
also consider the principles of materiality outlined in Standards on
Auditing.
6. AUDITOR UNABLE TO CONTINUE THE

ENGAGEMENT
If, as a result of a misstatement resulting from fraud or suspected fraud, the
auditor encounters exceptional circumstances that bring into question the
auditor’s ability to continue performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in the
circumstances, including whether there is a requirement for the auditor to
report to the person or persons who made the audit appointment or, in
some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the engagement,
where withdrawal is possible under applicable law or regulation; and
(i) Discuss with the appropriate level of management and those
charged with governance the auditor’s withdrawal from the
engagement and the reasons for the withdrawal; and
(ii) Determine whether there is a professional or legal requirement to

report to the person or persons who made the audit appointment
or, in some cases, to regulatory authorities, the auditor’s withdrawal
from the engagement and the reasons for the withdrawal.
SUMMARY
SA 240 “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial
Statements” defines the term ‘fraud’ as “an intentional act by one or more
individuals among management, those charged with governance, employees,
or third parties, involving the use of deception to obtain an unjust or illegal
advantage”.
misstatements resulting from fraudulent financial reporting and misstatements
resulting from misappropriation of assets. Misstatements in the financial
statements can arise from either fraud or error. The distinguishing factor
between fraud and error is whether the underlying action that results in the
misstatement of the financial statements is intentional or unintentional.
Fraud, whether fraudulent financial reporting or misappropriation of assets,
involves incentive or pressure to commit fraud, a perceived opportunity to do
so and some rationalization of the act. Fraudulent financial reporting involves
intentional misstatements including omissions of amounts or disclosures in
financial statements to deceive financial statement users. Misappropriation of
Assets involves the theft of an entity’s assets and is often perpetrated by
employees in relatively small and immaterial amounts.
As per SA 240 the primary responsibility for the prevention and detection of
fraud rests with management. An auditor conducting an audit in accordance
with SAs is responsible for obtaining reasonable assurance that the financial
statements are free from material misstatement, whether caused by fraud or
error.
fraud.
Fraud Reporting [Section 143(12) of Companies Act, 2013 & Rule 13 of CAAR,
2014]
A. Reporting of Fraud involving amount of less than 1 crore rupees: Auditor

to Report Board/Audit Committee within 2 days of knowledge of fraud.
The auditor should Report the following matters:
(a) Nature of Fraud with description; (b) Approximate amount involved; and (c)
Parties involved.
Company is bound to disclose certain specified details in Board’s Report as (a)
Nature of Fraud with description; (b) Approximate amount involved; (c) Parties
involved, if remedial action not taken; and (d) Remedial actions taken.
B. Reporting of Fraud involving amount of rupees 1 crore or above: The
auditor shall report the matter to the Board or the Audit Committee, as the
case may be, immediately but not later than 2 days of his knowledge of the
fraud, seeking their reply or observations within 45 days;
 In case reply/observations received within stipulated time, the auditor is
required to forward report along with reply/observations and comments
to Central Government within 15 days of receipt of such
reply/observations.
 Incase reply/observations not received within stipulated time
(within45days) the auditor should forward the report along with note
containing details of report for which failed to receive any
reply/observations to Central Government.
TEST YOUR KNOWLEDGE

Correct/Incorrect
State with reasons (in short) whether the following statement is correct or
incorrect:
(i) Teeming and lading is one of the techniques of inflating cash payments.
(ii) Fraud can be termed as intentional error.
(iii) Auditor needs to report to Central Government in case of fraud involving
20 lakhs rupees.
(iv) The primary responsibility for the prevention and detection of fraud rests
with both those charged with governance of the entity and management.
(v) Fraudulent financial reporting only involves manipulation, falsification or

alteration of accounting records or supporting documents from which
financial statements are prepared.
(vi) Unusual delays by the entity in providing requested information shows
problematic or unusual relationships between the auditor and
management.
(vii) In comparing management fraud with employee fraud, the auditor’s risk
of failing to discover the fraud is less for management fraud.
(viii) Excessive interest by management in maintaining or increasing the
entity’s inventory price or earnings trend is an example of Fraud Risk
Factor related to Opportunities.
(ix) Misstatements in the financial statements can arise from fraud only.
(x) Misappropriation of Assets involves the theft of an entity’s assets and is
often perpetrated by employees in relatively large and material amounts.
(xi) An auditor conducting an audit in accordance with SAs is responsible for
obtaining absolute assurance that the financial statements taken as a
whole are free from material misstatement, whether caused by fraud or
error.
Theoretical Questions
1. What do you understand by the term ‘fraud’? Provide its meaning as given
as under the Standard on Auditing (SA) 240.
2. Briefly explain self-revealing errors with the help of some illustration.
3. There are many ways for cash defalcation, one of which is suppressing
cash receipts. List out few techniques of how the receipts are suppressed.
4. Fraud Risk Factors are the events or conditions that indicate an incentive
or pressure to commit fraud or provide an opportunity to commit fraud.
Further, the nature of the industry or the entity’s operations also provides
opportunities to engage in fraudulent financial reporting. List out some
of the cases from where these opportunities may arise.
5. You notice a misstatement resulting from fraud or suspected fraud during
the audit and conclude that it is not possible to continue the performance
of audit. As a statutory Auditor, how would you deal?
6. Explain the scope of a Company Auditor’s enquiry on Fraud matters as

enshrined in the Companies (Auditor’s Report) Order, 2016.
7. During the Statutory Audit of a Public Limited Company , XYZ Ltd. its
auditor, Mr. Bajaj , the engagement partner of Bajaj Chopra & Associates
, encounters some exceptional circumstances that bring into question his
ability to continue performing the audit while suspecting a fraud arising
from material misstatements. Explain the steps to be taken in such a case.
8. Inadequate internal control over assets may increase the susceptibility of
misappropriation of those assets. Enlist some examples of such
circumstances.
9. In an audit of Financial statements of PQR Ltd., CA Vikas Khemka finds
that the Cash receipts have been suppressed. Give examples of such
techniques which may have led him suspect this.
10. Enlist the instances which induce Management/Employees to commit
fraud?
11. Fraudulent financial reporting often involves management override of
controls that otherwise may appear to be operating effectively. Explain
some techniques by which fraud can be committed by management
overriding controls.
ANSWERS/SOLUTIONS
Answers to Correct/Incorrect
(i) Incorrect: Teeming and Lading is one of the techniques of suppressing
cash receipts and not of inflating cash payments. Money received from
one customer is misappropriated and the account is adjusted with the
subsequent receipt from another customer and so on.
(ii) Correct: Fraud is the word used to mean intentional error. This is done
deliberately which implies that there is intent to deceive, to mislead or at
least to conceal the truth. It follows that other things being equal they are
more serious than unintentional errors because of the implication of
dishonestly which accompanies them.
(iii) Incorrect: As per section 143(12) of the Companies Act, 2013, if an auditor
of a company, in the course of the performance of his duties as auditor,
has reason to believe that an offence involving fraud is being or has been
committed against the company by officers or employees of the company,
he shall immediately report the matter to the Central Government (in case
amount of fraud is ` 1 crore or above) or Audit Committee or Board in
other cases (in case the amount of fraud involved is less than 1 crore)
within such time and in such manner as may be prescribed.
Thus, fraud involving amount of 20 lakh rupees should be reported to
Audit Committee.
(iv) Correct: As per SA 240 “The Auditor’s Responsibilities Relating to Fraud
in an Audit of Financial Statements’. It is important that management, with
the oversight of those charged with governance place a strong emphasis
on fraud prevention, which may reduce opportunities for fraud to take
place, and fraud deterrence, which could persuade individuals not to
commit fraud because of the likelihood of detention and punishment. This
involves a commitment to create a culture of honesty and ethical behavior
which can be reinforced by an active oversight by those charged with
governance.
(v) Incorrect: As per SA 240, ”The Auditor’s Responsibilities Relating to fraud
in an Audit of Financial Statements’, fraudulent financial reporting may
involve manipulation, falsification or alteration of accounting records or
supporting documents from which financial statements are prepared,
misrepresentation in or intentional omission from, financial statements of
events, transaction or other significant information or intentional
misapplication of accounting principles relating to amounts, classification,
manner of presentation or disclosure.
(vi) Correct: It is a strong example of circumstances that indicate the
possibility of fraud. This happiness only because of the Management’s
intolerance towards the auditor’s Professional skepticism
(vii) Incorrect: In comparing management fraud with employee fraud, the
auditor’s risk of failing to discover the fraud is greater for management
fraud because of management’s ability to override existing internal
controls
(viii) Incorrect: Excessive interest by management in maintaining or increasing
the entity’s inventory price or earnings trend is an example of Fraud Risk
Factor related to Rationalization.
(ix) Incorrect: Misstatements in the financial statements can arise from either
fraud or error. The distinguishing factor between fraud and error is
whether the underlying action that results in the misstatement of the
financial statements is intentional or unintentional.
(x) Incorrect:- Misappropriation of Assets involves the theft of an entity’s
assets and is often perpetrated by employees in relatively small and
immaterial amounts.
(xi) Incorrect:- An auditor conducting an audit in accordance with SAs is
responsible for obtaining reasonable assurance that the financial
statements taken as a whole are free from material misstatement, whether
caused by fraud or error. As described in SA200, “Overall Objectives of
the Independent Auditor and the Conduct of an Audit in Accordance
with Standards on Auditing,” owing to the inherent limitations of an
audit, there is an unavoidable risk that some material misstatements of
the financial statements will not be detected, even though the audit is
properly planned and performed in accordance with the SAs.
Answer to Theoretical Questions

1. Meaning of Fraud: The SA 240 ‘The Auditor’s Responsibilities Relating
to Fraud in an Audit of Financial Statements; defines the term fraud as an
intentional act by one or more individuals among management, those
charged with governance, employees, or third parties, involving the use
of deception to obtain an unjust or illegal advantage.
2. Self Revealing Errors: These are such errors the existence of which
becomes apparent in the process of compilation of account. A few
illustrations of such errors are given hereunder, showing how they
become apparent.
(i) Omission to post a part of a Trial balance is thrown out of
journal entry to the ledger. agreement
(ii) Wrong totaling of the Control Account [e.g. the Sundry
Purchase Register Trade payables Account) balances
and the aggregate of the balance in
the personal ledger will disagree.
(iii) A failure to record in the Bank reconciliation statement will

cash book amounts paid show up error.
into or withdrawn from the
bank.
(iv) A mistake in recording Statements of account of parties will
amount received from X in reveal mistake.
the account of Y.
From the above, it is clear that certain apparent errors balance almost
automatically by double entry accounting procedure and by following
established practices that lie within the accounting system but not being
generally considered to be a part of it, like bank reconciliation or sending
monthly statements of account for confirmation.
3. Declaration of Cash by Supporting Cash Receipts: Refer Para 2.2.2.2
4. Fraud Risk Factors-Opportunities. Refer 4.1
5. Impossible to Continue the Performance of Audit: Refer Para 6.
6. The auditor is also required to report under clause (x) of paragraph 3 of
Companies (Auditor’s Report) Order, 2016, whether any fraud by the
company or any fraud on the Company by its officers or employees has
been noticed or reported during the year. If yes, the nature and the
amount involved is to be indicated.
The scope of auditor’s inquiry under this clause is restricted to frauds
‘noticed or reported’ during the year. It may be noted that this clause of
the Order, by requiring the auditor to report whether any fraud by the
company or on the company by its Officer or employees has been noticed
or reported, does not relieve the auditor from his responsibility to
consider fraud and error in an audit of financial statements. In other
words, irrespective of the auditor’s comments under this clause, the
auditor is also required to comply with the requirements of SA 240, “The
Auditor’s Responsibility Relating to Fraud in an Audit of Financial
Statements”.
7. If, as a result of a misstatement resulting from fraud or suspected fraud,
the auditor encounters exceptional circumstances that bring into question
the auditor’s ability to continue performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in

the circumstances, including whether there is a requirement for the
auditor to report to the person or persons who made the audit
appointment or, in some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the
engagement, where withdrawal is possible under applicable law or
regulation; and
(ii) Determine whether there is a professional or legal
requirement to report to the person or persons who made the
audit appointment or, in some cases, to regulatory authorities,
the auditor’s withdrawal from the engagement and the
misappropriation of those assets. For example, misappropriation of
assets may occur because there is the following:
• Inadequate segregation of duties or independent checks.
• Inadequate oversight of senior management expenditures, such as
travel and other reimbursements.
• Inadequate record keeping with respect to assets.
• Inadequate system of authorization and approval of transactions
(for example, in purchasing).
• Inadequate physical safeguards over cash, investments, inventory,
or fixed assets.
• Lack of complete and timely reconciliations of assets.
• Lack of timely and appropriate documentation of transactions, for
• Lack of mandatory vacations for employees performing key control
functions.
• Inadequate management understanding of information technology,

misappropriation.
• Inadequate access controls over automated records, including
controls over and review of computer systems event logs.
9. (1) Teeming and Lading: Amount received from a customer being
them.
10. Following are such certain instances:-
• Financial obligations/ Pressure.
• Management’s unrealistic goals.
• Dissatisfied Employees or Lack of motivation among employees.
• Name game (e.g management using power of authority by asking
• Opportunity to commit fraud.
11. Fraud can be committed by management overriding controls using such

techniques as:
• Recording fictitious journal entries, particularly close to the end of
an accounting period, to manipulate operating results or achieve
other objectives.
• Inappropriately adjusting assumptions and changing judgments
used to estimate account balances.
• Omitting, advancing or delaying recognition in the financial
statements of events and transactions that have occurred during the
reporting period.
• Concealing, or not disclosing, facts that could affect the amounts
• Engaging in complex transactions that are structured to
misrepresent the financial position or financial performance of the
entity.
• Altering records and terms related to significant and unusual
transactions.
CHAPTER
9
AUDIT OF ITEMS OF
FINANCIAL STATEMENTS
At Page No. 9.11 in the topic of "Issue of Sweat Equity Shares"

Clause (c) not less than one year has, at the date of such issue, elapsed since the date on which
the company had commenced business.
Note: The above clause has been omitted.
CHAPTER
10
THE COMPANY AUDIT
LEARNING OUTCOMES
❑ Understand qualification and disqualification of an auditor.
❑ Know the procedures of appointment, reappointment, filling up of the
casual vacancies and removal of auditor.
❑ Understand powers and duties of auditor.
❑ Understand the provisions relating to rotational retirement.
Company Audit
• Appointment of Auditor
• Rotation of Auditor
• Audit Committee
• Auditor's Remuneration
• Removal of Auditor
• Ceiling Limit
• Powers & Duties of Auditor
• Audit Report as per Co., Act 2013
• Joint Audit
• Audit of Branch
• Cost Audit
• Punishment for non-compliance
INTRODUCTION
Companies Act, 2013 is rule based Act. Sections 139 to 148 of the Companies
Act, 2013 (hereinafter referred to as the Act unless otherwise mentioned) deal
SECTIONS COVERED IN THIS CHAPTER
139. Appointment of auditors.

140. Removal, resignation of auditor and giving of special notice.
141. Eligibility, qualifications and disqualifications of auditors.
142. Remuneration of auditors.
143. Powers and duties of auditors and auditing standards.
144. Auditor not to render certain services.
145. Auditors to sign audit reports, etc.
146. Auditors to attend general meeting.
147. Punishment for contravention.
148. Central Government to specify audit of items of cost in respect of
certain companies.
with provisions relating to audit of companies. Therefore, it is quite important

to understand these provisions very carefully. You may also study sections 128
to 138 relating to “Accounts” of companies for better understanding of the
subject. The provisions relating to ‘audit’ broadly deal with who can be
appointed as an auditor under the Act, i.e., qualifications and disqualifications,
the manner of appointment and removal of an auditor and rights and duties of
an auditor. A scheme of the provisions of the Act relating to audit is given below
for quick reference:
1. ELIGIBILITY, QUALIFICATIONS AND DISQUALIFICATIONS OF

AN AUDITOR
The provisions relating to eligibility, qualifications and disqualifications of an
auditor are governed by section 141 of the Companies Act, 2013 (hereinafter
referred as the Act). The main provisions are stated below:
(1) A person shall be eligible for appointment as an auditor of a company
only if he is a chartered accountant.
It may be noted that a firm whereof majority of partners practising in India
are qualified for appointment as aforesaid may be appointed by its firm
name to be auditor of a company.
(2) Where a firm including a limited
liability partnership is appointed as
an auditor of a company, only the
partners who are chartered
accountants shall be authorised to
act and sign on behalf of the firm.
(3) Under sub-section (3) of section
141 along with Rule 10 of the
Companies (Audit and Auditors)
Fig.: Is the person eligible for
Rules, 2014 (hereinafter referred as appointment as auditor?*
CAAR), the following persons shall not
be eligible for appointment as an
auditor of a company, namely-
(a) a body corporate other than a limited liability partnership registered
under the Limited Liability Partnership Act, 2008;
(b) an officer or employee of the company;

(c) a person who is a partner, or who is in the employment, of an officer
or employee of the company;
(d) a person who, or his relative or partner -
(i) is holding any security of or interest in the company or its
subsidiary, or of its holding or associate company or a
subsidiary of such holding company;
It may be noted that the relative may hold security or interest
in the company of face value not exceeding Rupees 1,00,000.
It may also be noted that the condition of Rupees 1,00,000
shall, wherever relevant, be also applicable in the case of a
company not having share capital or other securities.
Students may also note that in the event of acquiring any
security or interest by a relative, above the threshold
prescribed, the corrective action to maintain the limits as
specified above shall be taken by the auditor within 60 days
of such acquisition or interest.
The following points merit consideration in this regard:
(a) The value of shares of Rupees 1,00,000 that can be held
by relative is the face value not the market value.
(b) The limit of Rupees 1,00,000 would be applicable where
the securities are held by the relative of an auditor and
not where the securities are held by an auditor himself
or his partner. In case of an auditor or his partner,
securities of even small value shall be a disqualification.
(c) Grace period of 60 days for corrective action shall apply
only in respect of securities held by relatives. This would
not apply to auditor or his partner.
[The term “relative”, as defined under the Companies Act,
2013, means anyone who is related to another as members of
a Hindu Undivided Family; husband and wife; Father (including
step- father), Mother (including step-mother), Son (including
step- son), Son’s wife, Daughter, Daughter’s husband, Brother

(including step- brother), Sister (including step-sister).]
Example
Ex 1: Mr. A, a practicing Chartered Accountant, is holding securities

of XYZ Ltd. having face value of ` 900. Whether Mr. A is qualified for
appointment as an auditor of XYZ Ltd.?
As per section 141(3)(d)(i), an auditor is disqualified to be appointed
as an auditor if he, or his relative or partner holding any security of
or interest in the company or its subsidiary, or of its holding or
associate company or a subsidiary of such holding company.
In the present case, Mr. A is holding security of ` 900 in XYZ Ltd.
Therefore, he is not eligible for appointment as an auditor of XYZ Ltd.
Ex 2: Mr. P is a practicing Chartered Accountant and Mr. Q, the
relative of Mr. P, is holding securities of ABC Ltd. having face value of
` 90,000. Whether Mr. P is qualified from being appointed as an
auditor of ABC Ltd.?
As per section 141(3)(d)(i), a person is disqualified to be appointed as
an auditor if he, or his relative or partner is holding any security of or
interest in the company or its subsidiary, or of its holding or associate
company or a subsidiary of such holding company. Further, as per
proviso to this section, the relative of the person may hold the
securities or interest in the company of face value not exceeding of
` 1,00,000.
In the present case, Mr. Q. (relative of Mr. P), is having securities of
` 90,000 face value in ABC Ltd., which is as per requirement of proviso
to section 141(3)(d)(i). Therefore, Mr. P will not be disqualified to be
appointed as an auditor of ABC Ltd.
Ex 3: M/s BC & Co. is an Audit Firm having partners Mr. B and Mr. C,
and Mr. A the relative of Mr. C, is holding securities of MWF Ltd.
having face value of
` 1,01,000. Whether M/s BC & Co. is qualified from being appointed
as an auditor of MWF Ltd.?

company or a subsidiary of such holding company. Further as per
` 1,00,000.
In the instant case, M/s BC & Co, will be disqualified for appointment
as an auditor of MWF Ltd. as the relative of Mr. C (i.e. partner of M/s
BC & Co.) is holding the securities in MWF Ltd. which is exceeding the
limit mentioned in proviso to section 141(3)(d)(i).
Ex 4: M/s RM & Co. is an audit firm having partners CA. R and CA. M.
The firm has been offered the appointment as an auditor of Enn Ltd.
for the Financial Year 2016-17. Mr. Bee, the relative of CA. R, is
holding 5,000 shares (face value of ` 10 each) in Enn Ltd. having
market value of ` 1,50,000. Whether M/s RM & Co. is disqualified to
be appointed as auditors of Enn Ltd.?
As per section 141(3)(d)(i), a person shall not be eligible for
appointment as an auditor of a company, who, or his relative or
partner is holding any security of or interest in the company or its
subsidiary, or of its holding or associate company or a subsidiary of
such holding company. However, as per proviso to this section, the
relative of the person may hold the securities or interest in the
company of face value not exceeding of ` 1,00,000.
In the instant case, M/s RM & Co. is an audit firm having partners CA.
R and CA.
M. Mr. Bee is a relative of CA. R and he is holding shares of Enn Ltd.
of face value of ` 50,000 only (5,000 shares x ` 10 per share).
Therefore, M/s RM & Co. is not disqualified for appointment as an
auditors of Enn Ltd. as the relative of CA. R (i.e. partner of M/s RM &
Co.) is holding the securities in Enn Ltd. which is within the limit
mentioned in proviso to section 141(3)(d)(i) of the Companies Act,
2013.
(ii) is indebted to the company, or its subsidiary, or its holding or

associate company or a subsidiary of such holding company,
in excess of Rupees 5,00,000; or
(iii) has given a guarantee or provided any security in connection
with the indebtedness of any third person to the Company or
its Subsidiary, or its Holding or Associate Company or a
Subsidiary of such Holding Company, in excess of Rupees
1,00,000.
(e) a person or a firm who, whether directly or indirectly has business
relationship with the Company, or its Subsidiary, or its Holding or
Associate Company or Subsidiary of such holding company or
associate company, of such nature as may be prescribed;
Students may note that for the purpose of clause (e) above, the term
“business relationship” shall be construed as any transaction
entered into for a commercial purpose, except –
(i) commercial transactions which are in the nature of
professional services permitted to be rendered by an auditor
or audit firm under the Act and the Chartered Accountants Act,
1949 and the rules or the regulations made under those Acts;
(ii) commercial transactions which are in the ordinary course of
business of the company at arm’s length price - like sale of
products or services to the auditor, as customer, in the
ordinary course of business, by companies engaged in the
business of telecommunications, airlines, hospitals, hotels and
such other similar businesses.
(f) a person whose relative is a Director or is in the employment of the
Company as a director or key Managerial Personnel.
(g) a person who is in full time employment elsewhere or a person or a
partner of a firm holding appointment as its auditor, if such person
or partner is at the date of such appointment or reappointment
holding appointment as auditor of more than twenty companies
other than one person companies, dormant companies, small
companies and private companies having paid-up share capital less
than Rupees 100 crore.
(h) a person who has been convicted by a Court of an offence involving

fraud and a period of ten years has not elapsed from the date of
such conviction.
(i) a person who, directly or indirectly, renders any service referred
to in section 144 to the company or its holding company or its
subsidiary company.
It may be noted that, for the purposes of this clause, the term
"directly or indirectly" shall have the same meaning as assigned
to it in the Explanation to section 144, i.e.
In case of auditor being an individual, either himself or through
his relative or any other person connected or associated with
such individual or through any other entity, whatsoever, in
which such individual has significant influence or control, or
whose name or trade mark or brand is used by such individual,
shall be termed as rendering of services directly or indirectly by
the auditor; and
In case of auditor being a firm, either itself or through any of its
partners or through its parent, subsidiary or associate entity or
through any other entity, whatsoever,
in which the firm or any partner of the firm has significant
influence or control, or whose name or trade mark or brand is
used by the firm or any of its partners, shall be termed as
rendering of services directly or indirectly by the auditor.
Section 144 of the Companies Act, 2013 prescribes certain services not
to be rendered by the auditor. An auditor appointed under this Act shall
provide to the company only such other services as are approved by the
Board of Directors or the audit committee, as the case may be, but which
shall not include any of the following services
(whether such services are rendered directly
or indirectly to the company or its holding
company or subsidiary company), namely:
*
Fig.: Auditor restrained from entering into certain services


*Actuarial services broadly pertain to services relating to evaluation of
financial impact of risks using range of mathematical and statistical
methods
It may be noted that an auditor or audit firm who or which has been
performing any non- audit services on or before the commencement of
this Act shall comply with the provisions of this section before the closure
of the first financial year after the date of such commencement.
Example
CA. Poshin is providing the services of investment banking to C Ltd. Later
on, he was also offered to be appointed as an auditor of the company for
the current financial year. Advise.
Section 141(3)(i) of the Companies Act, 2013 disqualifies a person for
appointment as an auditor of a company who, directly or indirectly, renders
any service referred to in section 144 to the company or its holding
company or its subsidiary company. Section 144 of the Companies Act, 2013
prescribes certain services not to be rendered by the auditor which includes
investment banking services.
Therefore, CA. Poshin is advised not to accept the assignment of auditing as
the investment banking service is specifically notified in the list of services
not to be rendered by him as per section 141(3)(i) read with section 144 of
the Companies Act, 2013.
(4) Where a person appointed as an auditor of a company incurs any of the

disqualifications mentioned in sub-section (3) after his appointment, he
shall vacate his office as such auditor and such vacation shall be deemed
to be a casual vacancy in the office of the auditor.
CASE STUDY
Facts of the Case: Mr. A, a chartered accountant, has been appointed as an auditor
of Laxman Ltd. in the Annual General Meeting of the company held in September,
2016, which assignment he accepted. Subsequently in January, 2017 he joined Mr. B,
another chartered accountant, who is the Manager Finance of Laxman Ltd., as partner.
Provisions and Explanation: Section 141(3)(c) of the Companies Act, 2013
prescribes that any person who is a partner or in employment of an officer or
employee of the company will be disqualified to act as an auditor of a company.
Sub-section (4) of Section 141 provides that an auditor who becomes subject, after
his appointment, to any of the disqualifications specified in sub-sections (3) of
Section 141, he shall be deemed to have vacated his office as an auditor.
Conclusion: In the present case, Mr. A, an auditor of Laxman Ltd., joined as partner
with Mr. B, who is Manager Finance of Laxman Limited. The given situation has
attracted sub- section (3)(c) of Section 141 and, therefore, he shall be deemed to have
vacated office of the auditor of Laxman Limited in accordance with sub-section (4) of
section 141.
2. APPOINTMENT OF AUDITOR
Section 139 of the Companies Act, 2013 contains provisions regarding
Appointment of Auditors. Discussion on appointment of auditors may be
grouped under two broad headings-
(I) Appointment of First Auditors.
(II) Appointment of Subsequent Auditors.
Fig: Meeting for appointment of Auditor*
*
Source of image : http://newhavenscience.org
Appointment of Auditor [Section

139]
Subsequent
First Auditor
Auditor
Other than Government Other than Government

Government Company defined Government Company defined
Company [Section u/s 2(45) [Section Company [Section u/s 2(45) [Section
139(6)] 139(7) 139(1)] 139(5)
Appointment by Appointment by
BOD Appointment by Members in AGM Appointment by C &
C&AG within 60 AG within 180 days
days from the from the
within 30 days DOR commencement of
from DOR year
in case of failure
in case of failure: BOD within 30
Members in EGM days Hold the office
within 90 days from 1st AGM to
6th AGM subject
in case of failure Hold the office till
to fulfillment of
Members in EGM certain conditions the conclusion of
with in 60 days the AGM
Hold the office till

the conclusion of
the first AGMS
Hold the office till

the conclusion of
the first AGM
2.1 Appointment of First Auditor

2.1.1 Appointment of First Auditors in the case of a company, other than a
Government Company
As per Section 139(6), the first auditor of a company, other than a Government
company, shall be appointed by the Board of Directors within 30 days from the
date of registration of the company.
In the case of failure of the Board to appoint the auditor, it shall inform the
members of the company.
meeting appoint the auditor. Appointed auditor shall hold office till the
conclusion of the first annual general meeting.
CASE STUDY
Facts of the Case: Managing Director of Pigeon Ltd. himself wants to appoint
CA. Champ, a practicing Chartered Accountant, as first auditor of the company.
Provisions and Explanation: Section 139(6) of the Companies Act, 2013 lays
down that the first auditor of a company shall be appointed by the Board of
Directors within 30 days from the date of registration of the company. In the
instant case, the proposed appointment of CA. Champ, a practicing Chartered
Accountant, as first auditor by the Managing Director of Pigeon Ltd. by himself is
in violation of Section 139(6) of the Companies Act, 2013, which authorizes the
Board of Directors to appoint the first auditor of the company.
Conclusion: In view of the above, the Managing Director of Pigeon Ltd. should
be advised not to appoint the first auditor of the company.
2.1.2 Appointment of First Auditors in the case of Government Company:
A “Government company” is a company in which not less than 51% of the paid-up
share capital is held by the Central Government or by any State Government or
Governments or partly by the Central Government and partly by one or more State
Governments, and includes a company which is a subsidiary company of such a
Government company.
Section 139(7) provides that in the case of a Government company or any
other company owned or controlled, directly or indirectly, by the Central
Government, or by any State Government, or Governments, or partly by the
Central Government and partly by one or more State Governments, the first
auditor shall be appointed by the Comptroller and Auditor-General of India

within 60 days from the date of registration of the company.
In case the Comptroller and Auditor-General of India does not appoint such
auditor within the above said period, the Board of Directors of the company
shall appoint such auditor within the next 30 days. Further, in the case of failure
of the Board to appoint such auditor within next 30 days, it shall inform the
members of the company who shall appoint such auditor within 60 days at an
extraordinary general meeting. Auditors shall hold office till the conclusion of
CASE STUDY
Facts of the Case: The first auditor of Bhartiya Petrol Ltd., a Government
company, was appointed by the Board of Directors.
Provisions and Explanation: In the case of a Government Company, the
appointment of first auditor is governed by the provisions of Section 139(7) of the
Companies Act, 2013 which states that in the case of a Government company, the
first auditor shall be appointed by the Comptroller and Auditor-General of India
within 60 days from the date of registration of the company. Hence, in the case of
Bhartiya Petrol Ltd., being a government company, the first auditor shall be
appointed by the Comptroller and Auditor General of India.
Conclusion: Thus, the appointment of first auditor made by the Board of
Directors of Bhartiya Petrol Ltd., is null and void.
2.2 Appointment of Subsequent Auditor/ Reappointment of Auditor

2.2.1 Appointment of Subsequent Auditors in case of Non Government
Companies:
Section 139(1) of the Companies Act, 2013 provides that every company shall,
at the first annual general meeting appoint an individual or a firm as an auditor
who shall hold office from the conclusion of that meeting till the conclusion of
its sixth annual general meeting and thereafter till the conclusion of every sixth
meeting.
(i) Before such appointment is made, the written consent of the auditor to
such appointment, and a certificate from him or it that the appointment,
if made, shall be in accordance with the conditions as may be prescribed,

shall be obtained from the auditor.
(ii) Under Rule 4 of The Companies (Audit and Auditors) Rules, 2014, the said
certificate shall state the following:-
(a) the individual or the firm, as the case may be, is eligible for
appointment and is not disqualified for appointment under the Act,
the Chartered Accountants Act, 1949 and the rules or regulations
made thereunder;
(b) the proposed appointment is as per the term provided under the
Act;
(c) the proposed appointment is within the limits laid down by or under
the authority of the Act;
(d) the list of proceedings against the auditor or audit firm or any
partner of the audit firm pending with respect to professional
matters of conduct, as disclosed in the certificate, is true and correct.
(iii) The company shall inform the auditor concerned of his or its appointment,
and also file a notice of such appointment with the Registrar within 15
days of the meeting in which the auditor is appointed.
2.2.2 Appointment of Subsequent Auditors in case of Government
Companies:
As per section 139(5), in the case of a Government company or any other
company owned or controlled, directly or indirectly, by the Central Government,
or by any State Government or Governments, or partly by the Central
Government and partly by one or more State Governments, the Comptroller
and Auditor-General of India shall, in respect of a financial year, appoint an
auditor duly qualified to be appointed as an auditor of companies under this
Act, within a period of 180 days from the commencement of the financial year,
who shall hold office till the conclusion of the annual general meeting.
Therefore, it is to be clearly understood that in case of government companies
or companies controlled by government, auditor is appointed by Comptroller
and Auditor general of India in the manner provided in Section 139(5) and
139(7). It is to be remembered that Comptroller and auditor general of India is
independent constitutional authority which audits all receipts and expenditure
of Government of India and state governments including those of bodies,
corporations financed by government.

2.3 Filling of a Casual Vacancy
As per Section 139(8), any casual vacancy in the office of an auditor shall-
(i) In the case of a company other than a company whose accounts are
subject to audit by an auditor appointed by the Comptroller and
Auditor-General of India, be filled by the Board of Directors within 30
days.
If such casual vacancy is as a result of the resignation of an auditor, such
appointment shall also be approved by the company at a general meeting
convened within three months of the recommendation of the Board and
he shall hold the office till the conclusion of the next annual general
meeting.
(ii) In the case of a company whose accounts are subject to audit by an
auditor appointed by the Comptroller and Auditor-General of India,
be filled by the Comptroller and Auditor-General of India within 30 days.
It may be noted that in case the Comptroller and Auditor-General of India does
not fill the vacancy within the said period the Board of Directors shall fill the
vacancy within next 30 days.
2.3.1 Casual Vacancy by Resignation:

As per section 140(2) of the Act, the auditor who has resigned from the
company shall file within a period of 30 days from the date of resignation, a
statement in the prescribed Form ADT–3 (as per Rule 8 of CAAR) with the
company and the Registrar.
In case of the companies referred to in section 139(5) i.e. Government company,
the auditor shall also file such statement with the CAG along with the company
and the Registrar.
The auditor shall indicate the reasons and other facts as may be relevant with
regard to his resignation.
In case of failure, the auditor shall be liable to a penalty of fifty thousand rupees or
the remuneration of the auditor, whichever is less, and in case of continuing failure,
with further penalty of five hundred rupees for each day after the first during which
such failure continues, subject to a maximum of Two lakh rupees as per section
140(3).
CASE STUDY
Facts of the Case: CA. Donald was appointed as the auditor of PS Ltd. at
the remuneration of ` 30,000. However, after 4 months of continuing his
services, he could not continue to hold his office of the auditor as his wife
got a government job at a distant place and he needs to shift along with
her to the new place. Thus, he resigned from the company and did not
perform his responsibilities relating to filing of statement to the company
and the registrar indicating the reasons and other facts as may be relevant
with regard to his resignation.
How much fine may he be punishable with under section 140(3) for non-
compliance of section 140(2) of the Companies Act, 2013?
Provisions and Explanation: For non-compliance of sub-section (2) of
section 140 of the Companies Act, 2013, the auditor shall be punishable
with fine, which shall not be less than fifty thousand rupees or the
remuneration of the auditor, whichever is less but which may extend to five
lakh rupees, under section 140(3) of the said Act.
Conclusion: Thus, the fine under section 140(3) of the Companies Act, 2013
shall not be less than ` 30,000 but which may extend to ` 5,00,000 .
Other Important Provisions Regarding Appointment of Auditors
(1) A retiring auditor may be re-appointed at an annual general meeting, if-
(a) he is not disqualified for re-appointment;
(b) he has not given the company a notice in writing of his unwillingness to
be re - appointed; and
(c) a special resolution has not been passed at that meeting appointing
some other auditor or providing expressly that he shall not be re-
appointed.
(2) Where at any annual general meeting, no auditor is appointed or re-
appointed, the existing auditor shall continue to be the auditor of the
company.
3 ROTATION OF AUDITOR
3.1 Applicability of Section 139(2) Rotation of Auditor:
As per rules prescribed in Companies (Audit and
Auditors) Rules, 2014, for applicability of section
139(2) the class of companies shall mean the
following classes of companies excluding one
person companies and small companies-
Fig: Rotation of Auditors*
Class of Companies for Rotation of Auditor

↓
including Listed Companies
+
excluding OPC (One Person Company) and Small Companies
All companies having

paid up share capital
All unlisted public All private limited of below threshold
companies having companies having limit mentioned,
paid up share paid up share but having public
capital capital borrowings from
≥` 10 crore ≥ ` 50 crore financial institutions,
banks or public
deposits
≥ ` 50 crore
*
Source of image: the hindu business line.com
(i) all unlisted public companies having paid up share capital of rupees ten
crore or more;
(ii) all private limited companies having paid up share capital of rupees fifty
crore or more;
(iii) all companies having paid up share capital of below threshold limit
mentioned above, but having public borrowings from financial
institutions, banks or public deposits of rupees fifty crores or more.
Example
Rano Pvt. Ltd. is a private limited Company, having paid up share capital of ` 42
crore but having public borrowing from nationalized banks and financial
institutions of ` 72 crore, manner of rotation of auditor will be applicable.
As per section 139(2), no listed company or a company belonging to such class
or classes of companies as mentioned above, shall appoint or re-appoint-
(a) an individual as auditor for more than one term of five consecutive years;
and
(b) an audit firm as auditor for more than two terms of five consecutive years.
Provided that -
(i) an individual auditor who has completed his term under clause (a)
shall not be eligible for re-appointment as auditor in the same
company for five years from the completion of his term;
(ii) an audit firm which has completed its term under clause (b), shall
not be eligible for re-appointment as auditor in the same company
for five years from the completion of such term.
Therefore, provisions of Section 139(2) relating to rotation of
auditors are applicable only to listed companies and class of
companies satisfying conditions stated in para 3.1 above.
Example
Jolly Ltd., a listed company, appointed M/s Polly & Co., a Chartered Accountant
firm, as the statutory auditor in its AGM held at the end of September, 2016 for
11 years. Here, the appointment of M/s Polly & Co. is not valid as the
appointment can be made only for one term of five consecutive years and then
another one more term of five consecutive years. It can’t be appointed for two
terms in one AGM only. Further, a cooling period of five years from the
completion of term is required i.e. the firm can’t be re-appointed for further 5
years after completion of two terms of five consecutive years.
The following points merit consideration in this regard-

(1) As on the date of appointment, no audit firm having a common partner
or partners to the other audit firm, whose tenure has expired in a company
immediately preceding the financial year, shall be appointed as auditor of
the same company for a period of five years.
Example
M/s XYZ & Co., is an audit firm having partner Mrs. X, Mr. Y and Mr. Z,
whose tenure has expired in the company immediately preceding the
financial year. M/s ABZ & Co., another audit firm in which Mr. Z is a
common partner, will also be disqualified for the same company along
with M/S XYZ & Co. for the period of five years.
(2) Every company, existing on or before the commencement of this Act

which is required to comply with provisions of this sub-section, shall
comply with the requirements of this sub- section within a period which
shall not be later than the date of the first annual general meeting of the
company held, within the period specified under sub-section (1) of section
96, after three years from the date of commencement of this Act.
Examples
Ex 1: Mr. Raj, a Chartered Accountant, is an individual auditor of Binaca

Limited for last 5 years as on March, 2013 (i.e. existing on or before the date
of Commencement of Companies Act, 2013). Keeping in view the transition
period as stated in the Companies Act, 2013, Mr. Raj can continue the audit
of Binaca Ltd. upto the first annual general meeting to be held after three
years from the date of commencement of the Act.
Ex 2: M/s Raj & Associates, a Chartered Accountants Audit Firm, is doing
audit of Binaca Limited for last 11 years as on March, 2013 (i.e. existing on
or before the date of Commencement of Companies Act, 2013). Keeping in
view the transition period as stated in the Companies Act, 2013, M/s Raj
Associates can continue the audit of Binaca Ltd. upto the first annual general
meeting to be held after three years from the date of commencement of the
Act.
Students may interlink the above example with Illustrative table

explaining rotation in case of individual auditor as well as audit firm
which has been given after the 3.2 i.e. Manner of rotation of Auditors
by the Companies on Expiry of their Term.*
(3) It has also been provided that right of the company to remove an auditor
or the right of the auditor to resign from such office of the company shall
not be prejudiced.
(4) Subject to the provisions of this Act, members of a company may resolve
to provide that -
(a) in the audit firm appointed by it, the auditing partner and his team
shall be rotated at such intervals as may be resolved by members;
or
(b) the audit shall be conducted by more than one auditor.
(5) The Central Government may, by rules, prescribe the manner in which the
companies shall rotate their auditors.
3.2 Manner of Rotation of Auditors by the Companies on Expiry of
their Term:
Rule 6 of the Companies (Audit and Auditors) Rules, 2014 prescribes the manner
of rotation of auditors on expiry of their term which is given below-
(1) The Audit Committee shall recommend to the Board, the name of an
individual auditor or of an audit firm who may replace the incumbent
auditor on expiry of the term of such incumbent.
(2) Where a company is required to constitute an Audit Committee, the Board
shall consider the recommendation of such committee, and in other
cases, the Board shall itself consider the matter of rotation of auditors and
make its recommendation for appointment of the next auditor by the
members in annual general meeting.
(3) For the purpose of the rotation of auditors-
(i) in case of an auditor (whether an individual or audit firm), the period
for which the individual or the firm has held office as auditor prior
to the commencement of the Act shall be taken into account for
calculating the period of five consecutive years or ten consecutive
years, as the case may be;
(ii) the incoming auditor or audit firm shall not be eligible if such
auditor or audit firm is associated with the outgoing auditor or audit
firm under the same network of audit firms.
Explanation I - For the purposes of these rules the term “same
network” includes the firms operating or functioning, hitherto or in
future, under the same brand name, trade name or common control.
Explanation II - For the purpose of rotation of auditors,
(a) a break in the term for a continuous period of five years shall
be considered as fulfilling the requirement of rotation;
(b) if a partner, who is in charge of an audit firm and also certifies
the financial statements of the company, retires from the said
firm and joins another firm of chartered accountants, such
other firm shall also be ineligible to be appointed for a period
of five years.
*Illustration explaining rotation in case of individual auditor
Number of consecutive years Maximum number Aggregate period

for which an individual of consecutive which the auditor
auditor has been functioning years for which he would complete in
as auditor in the same may be appointed the same company
company [in the first AGM in the same in view of column I
held after the company and II
commencement of provisions (including
of section 139(2)] transitional period)
I II III
5 Years (or more than 5 3 years 8 years or more
years)
4 years 3 years 7 years
1 year 4 years 5 years
Note:
(1) Individual auditor shall include other individuals or firms whose
name or trade mark or brand is used by such individual, if any.
(2) Consecutive years shall mean all the preceding financial years for
which the individual auditor has been the auditor until there has
been a break by five years or more.
*Illustration explaining rotation in case of audit firm

for which an audit firm has of consecutive which the firm
been functioning as auditor years for which the would complete
in the same company [in the firm may be in the same
first AGM held after the appointed in the company in view
commencement of same company of column I and II
provisions of section 139(2)] (including
transitional period)
I II III
10 Years (or more than 3 years 13 years or more
10years)
Note:
(i) Audit Firm shall include other firms whose name or trade mark or
brand is used by the firm or any of its partners.
(ii) Consecutive years shall mean all the preceding financial years for
which the firm has been the auditor until there has been a break by
five years or more.
(4) Where a company has appointed two or more individuals or firms or a
combination thereof as joint auditors, the company may follow the
rotation of auditors in such a manner that both or all of the joint auditors,
as the case may be, do not complete their term in the same year.
As you would have noticed, the provisions relating to
disqualifications and rotation of auditors are meant to ensure that
audit function remains unbiased. These legal provisions also provide
enough safeguards so that auditors can form their opinion in an
independent and highly professional manner without any bias.
4 PROVISIONS RELATING TO AUDIT COMMITTEE

4.1 Applicability of section 177 i.e. Constitution of Audit Committee:
Where a company is required to constitute an Audit Committee under section
177, all appointments, including the filling of a casual vacancy of an auditor
under this section shall be made after taking into account the recommendations
of such committee.
all public
companies with a
paid up capital 
` 10 crore
Class of
Companies to
constitute Audit
Committee
[including Listed
Public
Companies]
all public companies,
having in aggregate, all public
outstanding loans or companies having
borrowings or turnover  ` 100
debentures or crore
deposits >` 50 crore
Diagram showing class of companies to constitute Audit Committee

As per provisions of Section 177 of Companies Act, audit committee
performs important functions including making recommendation for
appointment, remuneration and terms of appointment of auditor of the
company, reviewing and monitoring auditor’s independence and
performance & effectiveness of audit process, examination of financial
statements and auditor’s report thereon.
It is to be remembered that audit committee consists of directors of the
company. It consists of minimum 3 directors with independent directors
forming majority. Besides, audit committee also performs other important
functions. Audit committee helps in ensuring better standards of
corporate governance.
It is important to know that in addition to listed public companies, following
classes of companies shall constitute an Audit Committee -
(i) all public companies with a paid up capital of ten crore rupees or more;
(ii) all public companies having turnover of one hundred crore rupees or
more;
(iii) all public companies, having in aggregate, outstanding loans or
borrowings or debentures or deposits exceeding fifty crore rupees or
more.
Explanation: The paid up share capital or turnover or outstanding loans, or
borrowings or debentures or deposits, as the case may be, as existing on the
date of last audited Financial Statements shall be taken into account for the
purposes of this rule.
Therefore, provisions of constitution of audit committee are applicable
only to listed companies and public companies satisfying criteria as stated
above.
Example
XYZ Ltd., a public company having paid up capital of ` 9 crore but having turnover
of ` 150 crore, will be required to constitute an Audit Committee under section
177 because the requirement for constitution of Audit Committee arises if the
company falls into any of the prescribed category.
4.2 Manner and procedure of selection and appointment of auditors

Rule 3 of CAAR, 2014 prescribes the following manner and procedure of
selection and appointment of auditors-
(1) In case of a company that is required to constitute an Audit Committee
under section 177, the committee, and, in cases where such a committee
is not required to be constituted, the Board, shall take into consideration
the qualifications and experience of the individual or the firm proposed
to be considered for appointment as auditor and whether such
qualifications and experience are commensurate with the size and
requirements of the company.
It may be noted that while considering the appointment, the Audit
Committee or the Board, as the case may be, shall have regard to any
order or pending proceeding relating to professional matters of conduct
against the proposed auditor before the Institute of Chartered
Accountants of India or any competent authority or any Court.
(2) The Audit Committee or the Board, as the case may be, may call for such
other information from the proposed auditor as it may deem fit.
(3) Subject to the provisions of sub-rule (1), where a company is required to
constitute the Audit Committee, the committee shall recommend the
name of an individual or a firm as auditor to the Board for consideration
and in other cases, the Board shall consider and recommend an individual
or a firm as auditor to the members in the annual general meeting for
appointment.
(4) If the Board agrees with the recommendation of the Audit Committee, it
shall further recommend the appointment of an individual or a firm as
auditor to the members in the annual general meeting.
(5) If the Board disagrees with the recommendation of the Audit Committee,
it shall refer back the recommendation to the committee for
reconsideration citing reasons for such disagreement.
(6) If the Audit Committee, after considering the reasons given by the Board,
decides not to reconsider its original recommendation, the Board shall
record reasons for its disagreement with the committee and send its own
recommendation for consideration of the members in the annual general
meeting; and if the Board agrees with the recommendations of the Audit
Committee, it shall place the matter for consideration by members in the
annual general meeting.
(7) The auditor appointed in the annual general meeting shall hold office
from the conclusion of that meeting till the conclusion of the sixth annual
general meeting, with the meeting wherein such appointment has been
made being counted as the first meeting.
5 AUDITOR’S REMUNERATION
As per section 142 of the Act, the remuneration of the auditor of a company
shall be fixed in its general meeting or in such manner as may be determined
therein. However, board may fix remuneration of the first auditor appointed by
it.
Further, the remuneration, in addition to the fee payable to an auditor, include
the expenses, if any, incurred by the auditor in connection with the audit of the
company and any facility extended to him but does not include any
remuneration paid to him for any other service rendered by him at the request
of the company. Therefore, it has been clarified that the remuneration to

Auditor shall also include any facility provided to him.
6 REMOVAL OF AUDITORS
6.1 Removal of Auditor Before Expiry of Term
According to Section 140(1), the auditor appointed
under section 139 may be removed from his office
before the expiry of his term only by a special
resolution of the company, after obtaining the
previous approval of the Central Government in
that behalf as per Rule 7 of CAAR, 2014-
Fig: Auditor leaving office of the auditor*
(1) The application to the Central Government for removal of auditor shall be
made in Form ADT-2 and shall be accompanied with fees as provided for
this purpose under the Companies (Registration Offices and Fees) Rules,
2014.
(2) The application shall be made to the Central Government within 30 days
of the resolution passed by the Board.
(3) The company shall hold the general meeting within 60 days of receipt of
approval of the Central Government for passing the special resolution.
It is important to note that before taking any action for removal before expiry
of terms, the auditor concerned shall be given a reasonable opportunity of
being heard.
Direction by Tribunal in case Auditor acted in a Fraudulent Manner:

As per sub-section (5) of the section 140, the Tribunal either suo motu or on an
application made to it by the Central Government or by any person concerned, if it
is satisfied that the auditor of a company has, whether directly or indirectly, acted in
a fraudulent manner or abetted or colluded in any fraud by, or in relation to, the
company or its directors or officers, it may, by order, direct the company to change
its auditors.
However, if the application is made by the Central Government and the Tribunal
is satisfied that any change of the auditor is required, it shall within fifteen days
of receipt of such application, make an order that he shall not function as an
auditor and the Central Government may appoint another auditor in his place.
It may be noted that an auditor, whether individual or firm, against whom final
order has been passed by the Tribunal under this section shall not be eligible
to be appointed as an auditor of any company for a period of five years from
the date of passing of the order and the auditor shall also be liable for action
under
section 447.
It is hereby clarified that in the case of a firm, the liability shall be of the firm
and that of every partner or partners who acted in a fraudulent manner or
abetted or colluded in any fraud by, or in relation to, the company or its director
or officers.
As you would notice, the provisions of removal of auditor before expiry of
his term are also meant to safeguard auditor’s independence by imposing
strict conditions like prior approval of Central government.
6.2 Appointment of Auditor Other Than Retiring Auditor
Section 140(4) lays down procedure to appoint an auditor other than retiring
auditor who was removed-
(1) Special notice shall be required for a resolution at an annual general
meeting appointing as auditor a person other than a retiring auditor, or
providing expressly that a retiring auditor shall not be re-appointed,
except where the retiring auditor has completed a consecutive tenure of
five years or as the case may be, ten years, as provided under sub-section
(2) of section 139.
(2) On receipt of notice of such a resolution, the company shall forthwith send
a copy thereof to the retiring auditor.
(3) Where notice is given of such a resolution and the retiring auditor makes
with respect thereto representation in writing to the company (not
exceeding a reasonable length) and requests its notification to members
of the company, the company shall, unless the representation is received
by it too late for it to do so,-
(a) in any notice of the resolution given to members of the company,
state the fact of the representation having been made; and
(b) send a copy of the representation to every member of the company
to whom notice of the meeting is sent, whether before or after the
receipt of the representation by the company. and if a copy of the
representation is not sent as aforesaid because it was received too

late or because of the company's default, the auditor may (without
prejudice to his right to be heard orally) require that the
representation shall be read out at the meeting.
Students may note that if a copy of representation is not sent as aforesaid, a
copy thereof shall be field with the Registrar.
Curtailing right of the auditor regarding circulation of copy of
representation in the case of appointment of auditor other than retiring
auditor under section 140(4) of the companies act, 2013:
If the Tribunal is satisfied on an application either of the company or of any
other aggrieved person that the rights conferred by section 140(4) of the
Companies Act, 2013 are being abused by the auditor, then, the copy of the
representation may not be sent and the representation need not be read out at
the meeting.
7. CEILING ON NUMBER OF AUDITS

It has been mentioned earlier that before appointment is given to any auditor,
the company must obtain a certificate from him to the effect that the
appointment, if made, will not result in an excess holding of company audit by
the auditor concerned over the limit laid down in section 141(3)(g) of the
Companies Act, 2013 which prescribes that a person who is in full time
employment elsewhere or a person or a partner of a firm holding appointment
as its auditor, if such person or partner is at the date of such appointment or
reappointment holding appointment as auditor of more than twenty
companies other than one person companies, dormant companies, small
companies and private companies having paid-up share capital less than ` 100
crore, shall not be eligible for appointment as an Auditor of a Company.
In the case of a firm of auditors, it has been further provided that ‘specified
number of companies’ shall be construed as the number of companies specified
for every partner of the firm who is not in full time employment elsewhere.
This limit of 20 company audits is per person. In the case of an audit firm having
3 partners, the overall ceiling will be 3 × 20 = 60 company audits. Sometimes,
a chartered accountant is a partner in a number of auditing firms. In such a case,
all the firms in which he is partner or proprietor will be together entitled to 20
company audits on his account. Subject to the overall ceiling of company audits,
how they allocate the 20 audits between themselves is their affairs.
CASE STUDY
“ABC & Co.” is an Audit Firm having partners “Mr. A”, “Mr. B” and “Mr. C”,
Chartered Accountants. “Mr. A”, “Mr. B” and “Mr. C” are holding appointment as
an Auditor in 4, 6 and 10 Companies respectively.
(i) Provide the maximum number of Audits remaining in the name of “ABC &
Co.”
(ii) Provide the maximum number of Audits remaining in the name of
individual partner i.e. Mr. A, Mr. B and Mr. C.
(iii) Can ABC & Co. accept the appointment as an auditor in 60 private
companies having paid- up share capital less than ` 100 crore, 2 small
companies and 1 dormant company?
(iv) Would your answer be different, if out of those 60 private companies, 45
companies are having paid-up share capital of ` 110 crore each?
Fact of the Case: In the instant case, Mr. A is holding appointment in 4
companies, whereas Mr. B is having appointment in 6 Companies and Mr. C is
having appointment in 10 Companies. In aggregate all three partners are having
20 audits.
Provisions and Explanations: Section 141(3)(g) of the Companies Act, 2013 states
that the following persons shall not be eligible for appointment as an auditor of a
company i.e. a person who is in full time employment elsewhere; or a person, or a
partner of a firm holding appointment as its auditor, if such person, or partner is at
the date of such appointment, or reappointment holding appointment as auditor of
more than twenty companies other than one person companies, dormant companies,
small companies and private companies having paid-up share capital less than ` 100
crore.
As per section 141(3)(g), this limit of 20 company audits is per person. In the case
of an audit firm having 3 partners, the overall ceiling will be 3 × 20 = 60 company
audits. Sometimes, a chartered accountant is a partner in a number of auditing
firms. In such a case, all the firms in which he is partner or proprietor will be
together entitled to 20 company audits on his account.
Conclusion:
(i) Therefore, ABC & Co. can hold appointment as an auditor of 40 more
companies:
Total Number of Audits available to the Firm Number = 20*3= 60
of Audits already taken by all the partners
In their individual capacity = 4+6+10= 20
Remaining number of Audits available to the Firm = 40
(ii) With reference to above provisions an auditor can hold more appointment
as auditor = ceiling limit as per section 141(3)(g)- already holding
appointments as an auditor. Hence (1)Mr. A can hold: 20 - 4 = 16 more
audits. (2) Mr. B can hold 20-6 = 14 more audits and (3) Mr. C can hold
20-10 = 10 more audits.
(iii) In view of above discussed provisions, ABC & Co. can hold appointment as
an auditor in all the 60 private companies having paid-up share capital less
than ` 100 crore, 2 small companies and 1 dormant company as these are
excluded from the ceiling limit of company audits given under section
141(3)(g) of the Companies Act, 2013.
(iv) As per fact of the case, ABC & Co. is already having 20 company audits and
they can also accept 40 more company audits. In addition they can also
conduct the audit of one person companies, small companies, dormant
companies and private companies having paid up share capital less than
` 100 crores. In the given case, out of the 60 private companies, ABC & Co.
is offered 45 companies having paid-up share capital of ` 110 crore each.
Therefore, ABC & Co. can also accept the appointment as an auditor for 2
small companies, 1 dormant company, 15 private companies having paid-
up share capital less than ` 100 crore and 40 private companies having
paid-up share capital of ` 110 crore each in addition to above 20 company
audits already holding.
Council General Guidelines, 2008 (Chapter VIII): In exercise of the powers
conferred by clause (ii) of Part II of the Second Schedule to the Chartered
Accountants Act, 1949, the Council of the Institute of Chartered Accountants of
India hereby specifies that a member of the Institute in practice shall be deemed
to be guilty of professional misconduct, if he holds at any time appointment of
more than the “specified number of audit assignments of the companies under
Section 224 and /or Section 226 of the Companies Act, 1956 (now section
141(3)(g) of the Companies Act, 2013).
It may be noted that in the case of a firm of chartered accountants in practice,
the specified number of audit assignments shall be construed as the specified
number of audit assignments for every partner of the firm.
It may also be noted that where any partner of the firm of chartered accountants
in practice is also a partner of any other firm or firms of chartered accountants
in practice, the number of audit assignments which may be taken for all the
firms together in relation to such partner shall not exceed the specified number
of audit assignments in the aggregate.
It is further provided that where any partner of a firm or firms of chartered
accountants in practice accepts one or more audit assignments in his individual
capacity, or in the name of his proprietary firm, the total number of such
assignment which may be accepted by all firms in relation to such chartered
accountant and by him shall not exceed the specified number of audit
assignments in the aggregate.
(1) In computing the specified number of audit assignments-
(a) the number of such assignments, which he or any partner of his firm
has accepted whether singly or in combination with any other
chartered accountant in practice or firm of such chartered
accountants, shall be taken into account.
(b) the number of partners of a firm on the date of acceptance of audit
assignment shall be taken into account.
(c) a chartered accountant in full time employment elsewhere shall not
be taken into account.
(2) A chartered accountant in practice as well as firm of chartered accountants
in practice shall maintain a record of the audit assignments accepted by
him or by the firm of chartered accountants, or by any of the partner of
the firm in his individual name or as a partner of any other firm as far as
possible, in the prescribed manner.
Ceiling on Tax Audit Assignments: The specified number of tax audit

assignments that an auditor, as an individual or as a partner of a firm, can
accept is 60 numbers. ICAI has notified that a chartered accountant in practice
shall be deemed to be guilty of professional misconduct, if he accepts in a

financial year, more than the specified number of tax audit assignments u/s
44AB.
8. POWERS/RIGHTS OF AUDITORS
The auditor has the following powers/rights while conducting an audit:
(a) Right of access to books, etc. – Section 143(1) of the Act provides that
the auditor of a company, at all times, shall have a right of access to the books
of account and vouchers of the company, whether kept at the registered office
of the company or at any other place and he is entitled to require from the
officers of the company such information and explanation as he may consider
necessary for the performance of his duties as auditor.
It may be noted that according to section 2(59) of the Act, the term ‘officer’
includes any director, manager or key managerial personnel or any person in
accordance with whose directions or instructions the Board of Directors or any
one or more of the directors is or are accustomed to act;
The phrase ‘books, accounts and vouchers’ includes all books which have any
bearing, or are likely to have any bearing on the accounts, whether these be the
usual financial books or the statutory or statistical books; memoranda books,
e.g., inventory books, costing records and the like may also be inspected by the
auditor. Similarly the term ‘voucher’ includes all or any of the correspondence
which may in any way serve to vouch for the accuracy of the accounts. Thus, the
right of access is not restricted to books of account alone and it is for the
auditor to determine what record or document is necessary for the purpose of
the audit.
The right of access is not limited to those books and records maintained at the
registered or head office so that in the case of a company with branches, the
right also extends to the branch records, if the auditor considers it necessary to
have access thereto as per Section143(8).
Example
X Ltd. restrains its company auditor from visiting another branch at different
location and having access to the inventory records maintained at that branch
because the branch is already audited by another auditor and the report has been
received. Here, it may be noted that the company auditor has right to visit the
branch, even if the branch accounts are audited by another auditor, if he considers
it necessary to do so for the performance of his duties as auditor.
(b) Right to obtain information and explanation from officers - This
right of the auditor to obtain from the officers of the company such information
and explanations as he may think necessary for the performance of his duties
as auditor is a wide and important power. In the absence of such power, the
auditor would not be able to obtain details of amount collected by the
directors, etc. from any other company, firm or person as well as of any benefits
in kind derived by the directors from the company, which may not be known
from an examination of the books. It is for the auditor to decide the matters in
respect of which information and explanations are required by him. When the
auditor is not provided the information required by him or is denied access to
books, etc., his only remedy would be to report to the members that he could
not obtain all the information and explanations he had required or considered
necessary for the performance of his duties as auditors.
(c) Right to receive notices and to attend general meeting – The auditors of
a company are entitled to attend any general meeting of the company (the right is
not restricted to those at which the accounts audited by them are to be discussed);
also to receive all the notices and other communications relating to the general
meetings, which members are entitled to receive and to be heard at any general
meeting in any part of the business of the meeting which concerns them as auditors.
Section 146 of the Companies Act, 2013 discusses right as well as duty of the
auditor. According to the section 146:
“all notices of, and other communications relating to, any general meeting shall
be forwarded to the auditor of the company, and the auditor shall, unless
otherwise exempted by the company, attend either by himself or through his
authorised representative, who shall also be qualified to be an auditor, any
general meeting and shall have right to be heard at such meeting on any part of
the business which concerns him as the auditor.”
Thus, it is right of the auditor to receive notices and other communications
relating to any general meeting and to be heard at such meeting, relating to
the matter of his concern, however, it is duty of the auditor to attend the same
or through his authorised representative unless otherwise exempted.
(d) Right to report to the members of the company on the accounts
examined by him – The auditor shall make a report to the members of the
company on the accounts examined by him and on every financial statements
which are required by or under this Act to be laid before the company in
general meeting and the report shall after taking into account the provisions of
this Act, the accounting and auditing standards and matters which are required
to be included in the audit report under the provisions of this Act or any rules
made there under or under any order made under this section and to the best
of his information and knowledge, the said accounts, financial statements give
a true and fair view of the state of the company’ s affairs as at the end of its
financial year and profit or loss and cash flow for the year and such other
matters as may be prescribed.
(e) Right to Lien – In terms of the general principles of law, any person
having the lawful possession of somebody else’s property, on which he has
worked, may retain the property for non-payment of his dues on account of the
work done on the property. On this premise, auditor can exercise lien on books
and documents placed at his possession by the client for non payment of fees,
for work done on the books and documents. The Institute of Chartered
Accountants in England and Wales has expressed a similar view on the following
conditions:
(i) Documents retained must belong to the client who owes the money.
(ii) Documents must have come into possession of the auditor on the
authority of the client. They must not have been received through
irregular or illegal means. In case of a company client, they must be
received on the authority of the Board of Directors.
(iii) The auditor can retain the documents only if he has done work on the
documents assigned to him.
(iv) Such of the documents can be retained which are connected with the work
on which fees have not been paid.
Under section 128 of the Act, books of account of a company must be kept at
the registered office. These provisions ordinarily make it impracticable for the
auditor to have possession of the books and documents. The company provides
reasonable facility to auditor for inspection of the books of account by directors
and others authorised to inspect under the Act. Taking an overall view of the
matter, it seems that though legally, auditor may exercise right of lien in cases
of companies, it is mostly impracticable for legal and practicable constraints.
His working papers being his own property, the question of lien, on them does
not arise.
SA 230 issued by ICAI on Audit Documentation (explanatory text, A- 25),
“Standard on Quality Control (SQC) 1, “Quality Control for Firms that Perform
Audits and Reviews of Historical Financial Information, and Other Assurance and
Related Services Engagements”, issued by the Institute, provides that, unless
otherwise specified by law or regulation, audit documentation is the property
of the auditor. He may at his discretion, make portions of, or extracts from, audit
documentation available to clients, provided such disclosure does not
undermine the validity of the work performed, or, in the case of assurance
engagements, the independence of the auditor or of his personnel.”
9. DUTIES OF AUDITORS
Sections 143 of the Companies Act, 2013 specifies the duties of an auditor of
a company in a quite comprehensive manner. It is noteworthy that scope of
duties of an auditor has generally been extending over all these years.
(1) Duty of Auditor to Inquire on certain matters: Under provisions of
section 143(1), it is the duty of auditor to inquire into the following
matters-
(a) whether loans and advances made by the company on the basis of
security have been properly secured and whether the terms on
which they have been made are prejudicial to the interests of the
company or its members;
(b) whether transactions of the company which are represented merely
by book entries are prejudicial to the interests of the company;
(c) where the company not being an investment company or a banking
company, whether so much of the assets of the company as consist
of shares, debentures and other securities have been sold at a price
less than that at which they were purchased by the company;
(d) whether loans and advances made by the company have been
shown as deposits;
(e) whether personal expenses have been charged to revenue account;
(f) where it is stated in the books and documents of the company that
any shares have been allotted for cash, whether cash has actually
been received in respect of such allotment, and if no cash has
actually been so received, whether the position as stated in the
account books and the balance sheet is correct, regular and not
misleading.
The opinion of the Research Committee of the Institute of Chartered
Accountants of India on section 143(1) is reproduced below:
“The auditor is not required to report on the matters specified in sub-
section (1) unless he has any special comments to make on any of the
items referred to therein. If he is satisfied as a result of the inquiries, he
has no further duty to report that he is so satisfied. In such a case, the
content of the Auditor’s Report will remain exactly the same as the auditor
has to inquire and apply his mind to the information elicited by the
enquiry, in deciding whether or not any reference needs to be made in
his report. In our opinion, it is in this light that
the auditor has to consider his duties under section 143(1).”
Therefore, it could be said that the auditor should make a report to the
members in case he finds answer to any of these matters in adverse.
(2) Duty to report:
Under provisions of Section 143(2), the auditor shall make a report to the
members of the company on the accounts examined by him and on every
financial statements which are required by or under this Act to be laid
before the company in general meeting and the report shall after taking
into account the provisions of this Act, the accounting and auditing
standards and matters which are required to be included in the audit
report under the provisions of this Act or any rules made thereunder or
under any order made under sub-section (11).
Further, auditor has to report whether to best of his information and
knowledge, the said accounts, financial statements give a true and fair
view of the state of the company’s affairs as at the end of its financial
year and profit or loss and cash flow for the year and following
matters as prescribed under relevant rules:-
(a) whether the company has disclosed the impact, if any, of pending
litigations on its financial position in its financial statement;
(b) whether the company has made provision, as required under any
law or accounting standards, for material foreseeable losses, if any,
on long term contracts including derivative contracts;
(c) whether there has been any delay in transferring amounts, required
to be transferred, to the Investor Education and Protection Fund by
the company.
As per section 143(3), the auditor’s report shall also state–
(a) whether he has sought and obtained all the information and
explanations which to the best of his knowledge and belief were
necessary for the purpose of his audit and if not, the details thereof
and the effect of such information on the financial statements;
(b) whether, in his opinion, proper books of account as required by law have
been kept by the company so far as appears from his examination of
those books and proper returns adequate for the purposes of his audit
have been received from branches not visited by him;
(c) whether the report on the accounts of any branch office of the company
audited under sub-section (8) by a person other than the company’s
auditors has been sent to him under the proviso to that sub-section and
the manner in which he has dealt with it in preparing his report;
(d) whether the company’s balance sheet and profit and loss account dealt
with in the report are in agreement with the books of account and
returns;
(e) whether, in his opinion, the financial statements comply with the
accounting standards;
(f) the observations or comments of the auditors on financial transactions
or matters which have any adverse effect on the functioning of the
company;
(g) whether any director is disqualified from being appointed as a director
under sub- section (2) of the section 164;
(h) any qualification, reservation or adverse remark relating to the
maintenance of accounts and other matters connected therewith;
(i) whether the company has adequate internal financial controls with
reference to financial statements in place and the operating
effectiveness of such controls;
However, it may be noted that the reporting requirement on
adequacy of internal financial controls (IFCs) with reference to
financial statements shall not be applicable to a private company
which is a–
(iii) Company having turnover less than ` 50 crore as per latest
audited financial statement and having aggregate
borrowings from banks or financial institutions or any body
corporate at any point of time during the financial year less
than ` 25 crore.
(j) such other matters as may be prescribed. Rule 11 of the Companies
(Audit and Auditors) Rules, 2014 prescribes the other matters to be
included in auditor’s report. The auditor’s report shall also include
their views and comments on the following matters, namely:-
(i) whether the company has disclosed the impact, if any, of
pending litigations on its financial position in its financial
statement;
(ii) whether the company has made provision, as required under
any law or accounting standards, for material foreseeable
losses, if any, on long term contracts including derivative
contracts;
(iii) whether there has been any delay in transferring amounts,
required to be transferred, to the Investor Education and
Protection Fund by the company.
One Person Company

Private
Exemption from Company Small Company
reporting on
adequacy of IFCs Having turnover
< ` 50 crore and
Borrowings < ` 25 crore
[(iv) (1) Whether the management has represented that, to the best of it’s
knowledge and belief, other than as disclosed in the notes to the accounts, no
funds have been advanced or loaned or invested (either from borrowed funds
or share premium or any other sources or kind of funds) by the company to or
in any other person(s) or entity(ies), including foreign entities (“Intermediaries”
), with the understanding, whether recorded in writing or otherwise, that the
Intermediary shall, whether, directly or indirectly lend or invest in other
persons or entities identified in any manner whatsoever by or on behalf of the
company (“Ultimate Beneficiaries”) or provide any guarantee, security or the
like on behalf of the Ultimate Beneficiaries;
(2) Whether the management has represented, that, to the best of it’s
knowledge and belief, other than as disclosed in the notes to the accounts, no
funds have been received by the company from any person(s) or entity(ies),
including foreign entities (“Funding Parties”), with the understanding, whether
recorded in writing or otherwise, that the company shall, whether, directly or
indirectly, lend or invest in other persons or entities identified in any manner
whatsoever by or on behalf of the Funding Party (“Ultimate Beneficiaries”) or
provide any guarantee, security or the like on behalf of the Ultimate
Beneficiaries; and
(3) Based on such audit procedures that the auditor has considered
reasonable and appropriate in the circumstances, nothing has come to their
notice that has caused them to believe that the representations under sub-
clause (i) and (ii) contain any material mis-statement.
(v) Whether the dividend declared or paid during the year by the company is
in compliance with section 123 of the Companies Act, 2013.
[Notes: (1) Students may note that the auditor is also required to
report on certain additional matters specified under CARO, 2016
which is discussed later under Para 10 Reporting under Companies
(Auditor’s Report) Order, 2016.
(2) Students are also required to refer Guidance note on Reporting
under section 143(3)(f) and (h) of the Companies Act, 2013.]
Further, in case of government companies and companies controlled by
government, the Comptroller and auditor general of India shall direct the
auditor of such companies the manner in which accounts of such
companies are required to be audited. The copy of such report shall be
submitted to the Comptroller and auditor general of India. It is to be
further noted that Comptroller and auditor general of India has a right to
conduct supplementary audit of financial statements of such companies
within 60 days of receipt of audit report.
[Notes: For detailed provisions of CARO, 2016, students may refer
Para 10 Reporting under Companies (Auditor’s Report) Order, 2016
which is discussed subsequently]
(3) Duty to Sign the Audit Report: As per section 145 of the Companies Act,
2013, the person appointed as an auditor of the company shall sign the
auditor's report or sign or certify any other document of the company, in
accordance with the provisions of section 141(2).
Section 141(2) of the Companies Act, 2013 states that where a firm
including a limited liability partnership is appointed as an auditor of a
company, only the partners who are chartered accountants shall be
authorised to act and sign on behalf of the firm.
The qualifications, observations or comments on financial transactions or
matters, which have any adverse effect on the functioning of the company
mentioned in the auditor's report shall be read before the company in
general meeting.
(4) Duty to comply with Auditing Standards: As per section 143(9) of the
Companies Act, 2013, every auditor shall comply with the auditing
standards. Further, as per section 143(10) of the Act, the Central
Government may prescribe the standards of auditing as recommended by
the Institute of Chartered Accountants of India, in consultation with and
after examination of the recommendations made by the National

Financial Reporting Authority.
(5) Duty to report on frauds:
A. Reporting to the Central Government- As per section 143(12) of the
Companies Act, 2013 read with Rule 13 of the Companies (Audit and
Auditors) Rules, 2014, if an auditor of a company in the course of the
performance of his duties as auditor, has reason to believe that an offence
of fraud, which involves or is expected to involve individually an amount
of ` 1 crore or above, is being or has been committed in the company by
its officers or employees, the auditor shall report the matter to the Central
Government within such time and in such manner as prescribed.
B. Reporting to the Audit Committee or Board- In case of a fraud involving
lesser than the specified amount [i.e. less than ` 1 crore], the auditor shall report
the matter to the audit committee constituted under section 177 or to the Board
in other cases within such time and in such manner as prescribed.
C. Disclosure in the Board's Report: The companies, whose auditors have
reported frauds under this sub-section (12) to the audit committee or the
Board, but not reported to the Central Government, shall disclose the
details about such frauds in the Board's report in such manner as
prescribed.
Sub-section (13) of section 143 of the Companies Act, 2013 safeguards
the act of fraud reporting by the auditor if it is done in good faith. It
states that no duty to which an auditor of a company may be subject to
shall be regarded as having been contravened by reason of his reporting
the matter above if it is done in good faith.
It is very important to note that the provisions regarding fraud reporting
shall also apply, mutatis mutandis, to a cost auditor and a secretarial
auditor during the performance of his duties under section 148 and
section 204 respectively.
If any auditor, Cost Accountant, or company secretary in practice does
not comply with the provisions of sub-section (12), he shall,—
(a) in case of a listed company, be liable to a penalty of five lakh rupees;
and
(b) in case of any other company, be liable to a penalty of one lakh rupees.

Companies (Auditor’s Report) Order, 2016 [CARO, 2016], whether any
fraud by the company or any fraud on the Company by its officers or
employees has been noticed or reported during the year. If yes, the nature
and the amount involved is to be indicated.
Para 10 Reporting under Companies (Auditor’s Report) Order, 2016]
Example: The head accountant of a company entered fake invoices of credit
purchases in the books of account aggregate of ` 50 lakh and cleared all the
payments to such bogus creditor. Here, the auditor of the company is
required to report the fraudulent activity to the Board or Audit Committee
(as the case may be) within 2 days of his knowledge of fraud. Further, the
company is also required to disclose the same in Board’s Report.
It may be noted that the auditor need not to report the central government
as the amount of fraud involved is less than ` 1 crore, however, reporting
under CARO, 2016 is required.
(6) Duty to report on any other matter specified by Central Government:
The Central Government may, in consultation with the National Financial
Reporting Authority (NFRA), by general or special order, direct, in respect
of such class or description of companies, as may be specified in the order,
that the auditor's report shall also include a statement on such matters
as may be specified therein.
However, as per the notification dated 29.03.2016, till the time NFRA is
constituted, the Central Government may hold consultation required
under this sub-section with the Committee chaired by an officer of the
rank of Joint Secretary or equivalent in the MCA and the Committee shall
have the representatives from the ICAI and Industry Chambers and also
special invitees from the National Advisory Committee on Accounting
Standards (NACAS) and the office of the C&AG.
[Note: Students may note that Companies (Auditor’s Report) Order,
2016 has been notified in this perspective which is discussed later
under Para 10 Reporting under Companies (Auditor’s Report) Order,
2016]
(7) Duties and powers of the company’s auditor with reference to the
audit of the branch and the branch auditor are discussed separately
in the chapter under heading 13 branch audit.
(8) Duty to state the reason for qualification or negative report: As per
section 143(4), where any of the matters required to be included in the
audit report is answered in the negative or with a qualification, the report
shall state the reasons there for.
10. REPORTING UNDER COMPANIES (AUDITOR’S REPORT)

ORDER, 2016 [CARO, 2016]
The Central Government, after consultation with the committee constituted
under proviso to section 143(11) of the Companies Act, 2013, and in
supersession of the Companies (Auditor's Report) Order, 2015 dated the 10th
April, 2015, has issued the Companies (Auditor’s Report) Order, 2016, (CARO,
2016) under section 143(11) of the Companies Act, 2013, dated 29th March,
2016. The requirements of the Order are supplemental to the existing provisions
of section 143 of the Act regarding the auditor’s report.
The Order is not intended to limit the duties and responsibilities of auditors but
only requires a statement to be included in the audit report in respect of the
matters specified therein.
Applicability of the Order: The CARO, 2016 is an additional reporting
requirement Order. The order applies to every company including a foreign
company as defined in clause (42) of section 2 of the Companies Act, 2013.
However, the Order specifically exempts the following class of companies-
(i) a banking company as defined in clause (c) of section 5 of the Banking
Regulation Act, 1949;
(ii) an insurance company as defined under the Insurance Act,1938;
(iii) a company licensed to operate under section 8 of the Companies Act;
(iv) a One Person Company as defined under clause (62) of section 2 of the
Companies Act;
(v) a small company as defined under clause (85) of section 2 of the
Companies Act; and
(vi) a private limited company, not being a subsidiary or holding company of

a public company, having a paid up capital and reserves and surplus not
more than ` 1 crore as on the balance sheet date and which does not have
total borrowings exceeding ` 1 crore from any bank or financial institution
at any point of time during the financial year and which does not have a
total revenue as disclosed in Scheduled III to the Companies Act, 2013
(including revenue from discontinuing operations) exceeding ` 10 crore
during the financial year as per the financial statements.
It may be noted that the Order shall not be applicable to the auditor’s report
on consolidated financial statements.
Banking company
Private limited
company subject
Insurance
to fulfilment of
company
specified
conditions
Exempted
Class of
Companies
Company licensed
Small Company to operate under
section 8 of the
Companies Act
One Person
Company
EXAMPLES
Ex. 1: ‘Educating Child’ is a limited company registered under section 8 of the
Companies Act, 2013.
In the given case, ‘Educating Child’ is licensed to operate under section 8 of the
Companies Act, 2013. Therefore, CARO, 2016 shall not be applicable to
‘Educating Child’ accordingly.
Ex. 2: Ashu Pvt. Ltd. has fully paid capital and reserves of ` 50 lakh. During the
year, the company had borrowed ` 70 lakh each from a bank and a financial
institution independently. It has the turnover of ` 900 lakh.
In the given case of Ashu Pvt. Ltd., it has paid capital and reserves of ` 50 lakh
i.e. less than ` 1 crore, turnover of ` 9 crore i.e. less than ` 10 crore. However,
it has maximum outstanding borrowings of ` 1.40 crore (` 70 lakh + ` 70 lakh)
collectively from bank and financial institution.
Therefore, it fails to fulfill the condition relating to borrowings. Thus, CARO,
2016 shall be applicable to Ashu Pvt. Ltd. accordingly.
Matters to be included in the Auditor’s Report: Paragraph 3 of the Order
requires the auditor to include a statement in the auditor’s report on the
following matters, namely-
(i) (a) whether the company is maintaining proper records showing full
particulars, including quantitative details and situation of fixed
assets;
(b) whether these fixed assets have been physically verified by the
management at reasonable intervals; whether any material
discrepancies were noticed on such verification and if so, whether
the same have been properly dealt with in the books of account;
(c) whether the title deeds of immovable properties are held in the
name of the company. If not, provide the details thereof;
(ii) whether physical verification of inventory has been conducted at
reasonable intervals by the management and whether any material
discrepancies were noticed and if so, whether they have been properly
(iii) whether the company has granted any loans, secured or unsecured to
companies, firms, Limited Liability Partnerships or other parties covered
in the register maintained under section 189 of the Companies Act, 2013.
If so,
(a) whether the terms and conditions of the grant of such loans are not
prejudicial to the company’s interest;
(b) whether the schedule of repayment of principal and payment of
interest has been stipulated and whether the repayments or receipts
are regular;
(c) if the amount is overdue, state the total amount overdue for more
than ninety days, and whether reasonable steps have been taken by
the company for recovery of the principal and interest;

(iv) in respect of loans, investments, guarantees, and security whether
provisions of section 185 and 186 of the Companies Act, 2013 have been
complied with. If not, provide the details thereof.
(v) in case the company has accepted deposits, whether the directives issued
by the Reserve Bank of India and the provisions of sections 73 to 76 or
any other relevant provisions of the Companies Act, 2013 and the rules
framed there under, where applicable, have been complied with? If not,
the nature of such contraventions be stated; If an order has been passed
by Company Law Board or National Company Law Tribunal or Reserve
Bank of India or any court or any other tribunal, whether the same has
been complied with or not?
(vi) where maintenance of cost records has been specified by the Central
Government under sub-section (1) of section 148 of the Companies Act,
2013 and whether such accounts and records have been so made and
maintained.
(vii) (a) whether the company is regular in depositing undisputed statutory
dues including provident fund, employees' state insurance, income-
tax, sales-tax, service tax, duty of customs, duty of excise, value
added tax, cess and any other statutory dues with the appropriate
authorities and if not, the extent of the arrears of outstanding
statutory dues as at the last day of the financial year concerned for
a period of more than six months from the date they became
payable, shall be indicated;
(b) where dues of income tax or sales tax or service tax or duty of
customs or duty of excise or value added tax have not been
deposited on account of any dispute, then the amounts involved
and the forum where dispute is pending shall be mentioned. (A
mere representation to the concerned Department shall not
constitute a dispute).
(viii) whether the company has defaulted in repayment of loans or borrowing
to a financial institution, bank, Government or dues to debenture holders?
If yes, the period and the amount of default to be reported (in case of
defaults to banks, financial institutions, and Government, lender wise
details to be provided).
(ix) whether moneys raised by way of initial public offer or further public offer
(including debt instruments) and term loans were applied for the
purposes for which those are raised. If not, the details together with delays
or default and subsequent rectification, if any, as may be applicable, be
reported;
(x) whether any fraud by the company or any fraud on the Company by its
officers or employees has been noticed or reported during the year; If yes,
the nature and the amount involved is to be indicated;
(xi) whether managerial remuneration has been paid or provided in
accordance with the requisite approvals mandated by the provisions of
section 197 read with Schedule V to the Companies Act, 2013? If not, state
the amount involved and steps taken by the company for securing refund
of the same;
(xii) whether the Nidhi Company has complied with the Net Owned Funds to
Deposits in the ratio of 1:20 to meet out the liability and whether the Nidhi
Company is maintaining ten per cent unencumbered term deposits as
specified in the Nidhi Rules, 2014 to meet out the liability;
(xiii) whether all transactions with the related parties are in compliance with
sections 177 and 188 of Companies Act, 2013 where applicable and the
details have been disclosed in the Financial Statements etc., as required
by the applicable accounting standards;
(xiv) whether the company has made any preferential allotment or private
placement of shares or fully or partly convertible debentures during the
year under review and if so, as to whether the requirement of section 42
of the Companies Act, 2013 have been complied with and the amount
raised have been used for the purposes for which the funds were raised.
If not, provide the details in respect of the amount involved and nature of
non-compliance;
(xv) whether the company has entered into any non-cash transactions with
directors or persons connected with him and if so, whether the provisions
of section 192 of Companies Act, 2013 have been complied with;
(xvi) whether the company is required to be registered under section 45-IA of
the Reserve Bank of India Act, 1934 and if so, whether the registration has
been obtained.
Reasons to be Stated for Unfavourable or Qualified Answers: Where the

answer to any of the questions referred to in paragraph 3 of the Order is
unfavourable or qualified, in the auditor's report, the auditor shall also state the
basis for such unfavourable or qualified answer, as the case may be.
Further, where the auditor is unable to express any opinion on any specified
matter, his report shall indicate such fact together with the reasons why it is not
possible for him to give his opinion on the same.
Example: The company has dispensed with the practice of taking inventory of
their inventories at the year-end as in their opinion the exercise is redundant,
time consuming and intrusion to normal functioning of the operations. Explain
reporting requirement under CARO, 2016.
Reporting for Physical Verification of Inventory: Clause (ii) of Para 3 of
CARO, 2016, requires the auditor to report whether physical verification of
inventory has been conducted at reasonable intervals by the management and
whether any material discrepancies were noticed and if so, whether they have
been properly dealt with in the books of account.
The physical verification of inventory is the responsibility of the management
of the company which should verify all material items at least once in a year
and more often in appropriate cases.
In the given case, the above requirement of physical verification of inventory by
the management has not been taken place and therefore the auditor should point
out the same under CARO, 2016. He may consider the impact on financial
statement and report accordingly.
11. DISCLOSURE IN THE AUDITOR’S REPORT

The following paragraphs deal with the manner of qualification and the
manner of disclosure, if any, to be made in the auditor’s report.
AS-1 – Disclosure of Accounting Policies
In the case of a company, members should qualify their audit reports in case –
(a) accounting policies required to be disclosed under Schedule III or any
other provisions of the Companies Act, 2013 have not been disclosed, or
(b) accounts have not been prepared on accrual basis, or
(c) the fundamental accounting assumption of going concern has not been
followed and this fact has not been disclosed in the financial statements,
or
(d) proper disclosures regarding changes in the accounting policies have not
been made.
Where a company has been given a specific exemption regarding any of the
matters stated above but the fact of such exemption has not been adequately
disclosed in the accounts, the member should mention the fact of exemption in
his audit report without necessarily making it a subject matter of audit
qualification.
In view of the above, the auditor will have to consider different circumstances
whether the audit report has to be qualified or only disclosures have to be
given.
In the case of enterprises not governed by the Companies Act, the member
should examine the relevant statute and make suitable qualification in his audit
report in case adequate disclosures regarding accounting policies have not been
made as per the statutory requirements. Similarly, the member should examine if
the fundamental accounting assumptions have been followed in preparing the
financial statements or not. In appropriate cases, he should consider whether,
keeping in view the requirements of the applicable laws, a qualification in his
report is necessary.
In the event of non-compliance by enterprises not governed by the Companies
Act, in situations where the relevant statute does not require such disclosures
to be made, the member should make adequate disclosure in his audit report
without necessarily making it a subject matter of audit qualification.
In making a qualification / disclosure in the audit report, the auditor should
consider the materiality of the relevant item. Thus, the auditor need not make
qualification / disclosure in respect of items which, in his judgement, are not
material.
A disclosure, which is not a subject matter of audit qualification, should be made
in the auditor’s report in a manner that it is clear to the reader that the
disclosure does not constitute an audit qualification. The paragraph containing
the auditor’s opinion on true and fair view should not include a reference to the
paragraph containing the aforesaid disclosure.
12. JOINT AUDIT

The practice of appointing Chartered Accountants as joint auditors is quite
widespread in big companies and corporations. Joint audit basically implies
pooling together the resources and expertise of more than one firm of auditors
to render an expert job in a given time period which may be difficult to
accomplish acting individually. It essentially involves sharing of the total work.
This is by itself a great advantage.
In specific terms the advantages that flow may be the following:
(i) Sharing of expertise.
(ii) Advantage of mutual consultation.
(iii) Lower workload.
(iv) Better quality of performance.
(v) Improved service to the client.
(vi) Displacement of the auditor of the company taken over in a take - over
often obviated.
(vii) In respect of multi-national companies, the work can be spread using the
expertise of the local firms which are in a better position to deal with
detailed work and the local laws and regulations.
(viii) Lower staff development costs.
(ix) Lower costs to carry out the work.
(x) A sense of healthy competition towards a better performance.
The general disadvantages may be the following:
(i) The fees being shared.
(ii) Psychological problem where firms of different standing are associated in
the joint audit.
(iii) General superiority complexes of some auditors.
(iv) Problems of co-ordination of the work.
(v) Areas of work of common concern being neglected.
(vi) Uncertainty about the liability for the work done.
The Institute of Chartered Accountants of India has issued Standard on Auditing

(SA) 299 (Revised), “Joint Audit of Financial Statements” which lays down the
principles for effective conduct of joint audit to achieve the overall objectives
of the auditor as laid down in SA 200 “Overall Objectives of the Independent
Auditor and the conduct of an audit in accordance with Standards on Auditing”.
This Standard deals with the special considerations in carrying out audit by joint
auditors. It requires that–
(i) the engagement partner and other key members of the engagement team
from each of the joint auditors should be involved in planning the audit.
(ii) the joint auditors should jointly establish an overall audit strategy which
sets the scope, timing and direction of the audit, and also guides the
development of the audit plan.
(iii) before the commencement of the audit, the joint auditors should discuss
and develop a joint audit plan. In developing the joint audit plan, the joint
auditors should:
(a) identify division of audit areas and common audit areas;
(b) ascertain the reporting objectives of the engagement;
(c) consider and communicate among all joint auditors the factors that
are significant
(d) in directing the engagement team’s efforts;
(e) consider the results of preliminary engagement activities, or similar
engagements performed earlier.
(f) ascertain the nature, timing and extent of resources necessary to
accomplish the engagement.
(iv) each of the joint auditors should consider and assess the risks of material
misstatement and communicate to other joint auditors.
(v) the joint auditors should discuss and document the nature, timing, and
the extent of the audit procedures for (I) common and (II) specific allotted
areas of audit to be performed.
(vi) the joint auditors should obtain common engagement letter and common
management representation letter.
(vii) the work allocation document should be signed by all the joint auditors
and communicated to those charged with governance.
It further states that, in respect of audit work divided among the joint auditors,
each joint auditor shall be responsible only for the work allocated to such joint
auditor including proper execution of the audit procedures. On the other hand,
all the joint auditors shall be jointly and severally responsible for:
(i) the audit work which is not divided among the joint auditors and is carried
out by all joint auditors;
(ii) decisions taken by all the joint auditors under audit planning in respect of
common audit areas;
(iii) matters which are brought to the notice of the joint auditors by any one of
them and there is an agreement among the joint auditors on such matters;
(iv) examining that the financial statements of the entity comply with the
requirements of the relevant statutes;
(v) presentation and disclosure of the financial statements as required by the
applicable financial reporting framework;
(vi) ensuring that the audit report complies with the requirements of the
relevant statutes, applicable Standards on Auditing and other relevant
pronouncements issued by ICAI.
In case a joint auditor comes across matters which are relevant to the areas of
responsibility of other joint auditors and which deserve their attention, or which
require disclosure or require discussion with, or application of judgment by other
joint auditors, the said joint auditor shall communicate the same to all the other
joint auditors in writing prior to the completion of the audit.
It may be noted that the joint auditors are required to issue common audit report.
However, where the joint auditors are in disagreement with regard to the opinion
or any matters to be covered by the audit report, they shall express their opinion
in a separate audit report. In such circumstances, the audit report(s) issued by the
joint auditor(s) shall make a reference to each other’s audit report(s).
[Note: Student may refer SA 299 (revised) “Joint Audit of Financial Statements”
reproduced in “Auditing Pronouncements” for comprehensive knowledge.]
13. AUDIT OF BRANCH OFFICE ACCOUNTS

As per section 128(1) of the Companies Act, 2013, every company shall prepare
and keep at its registered office books of account and other relevant books
and papers and financial statement for every financial year which give a true
and fair view of the state of the affairs of the company, including that of its
branch office or offices, if any, and explain the transactions effected both at the
registered office and its branches and such books shall be kept on accrual basis
and according to the double entry system of accounting.
It may be noted that all or any of the books of account aforesaid and other
relevant papers may be kept at such other place in India as the Board of
Directors may decide and where such a decision is taken, the company shall,
within 7 days thereof, file with the Registrar a notice in writing giving the full
address of that other place.
Students may also note that the company may keep such books of account or
other relevant papers in electronic mode in such manner as may be prescribed.
Sub-section (2) provides that where a company has a branch office in India or
outside India, it shall be deemed to have complied with the provisions of sub-
section (1), if proper books of account relating to the transactions effected at
the branch office are kept at that office and proper summarised returns
periodically are sent by the branch office to the company at its registered office
or the other place referred in (1).
Further, sub-section (8) of section 143 of the Companies Act, 2013, prescribes
the duties and powers of the company’s auditor with reference to the audit of
the branch and the branch auditor. Where a company has a branch office, the
accounts of that office shall be audited either by the auditor appointed for the
company (herein referred to as the company's auditor) under this Act or by any
other person qualified for appointment as an auditor of the company under this
Act and appointed as such under section 139, or where the branch office is
situated in a country outside India, the accounts of the branch office shall be
audited either by the company's auditor or by an accountant or by any other
person duly qualified to act as an auditor of the accounts of the branch office in
accordance with the laws of that country and the duties and powers of the
company' s auditor with reference to the audit of the branch and the branch
auditor, if any, shall be such as may be prescribed:
It may be noted that the branch auditor shall prepare a report on the accounts
of the branch examined by him and send it to the auditor of the company who
shall deal with it in his report in such manner as he considers necessary.
Further as per rule 12 of the Companies (Audit and Auditors) Rules, 2014,
the branch auditor shall submit his report to the company’s auditor and
reporting of fraud by the auditor shall also extend to such branch auditor to the
extent it relates to the concerned branch.
Using the Work of another Auditor: When the accounts of the branch are
audited by a person other than the company’s auditor, there is need for a clear
understanding of the role of such auditor and the company’s auditor in relation
to the audit of the accounts of the branch and the audit of the company as a
whole; also, there is great necessity for a proper rapport between these two
auditors for the purpose of an effective audit. In recognition of these needs, the
Council of the Institute of Chartered Accountants of India has dealt with these
issues in SA 600, “Using the Work of another Auditor”. It makes clear that in
certain situations, the statute governing the entity may confer a right on the
principal auditor to visit a component and examine the books of account and
other records of the said component, if he thinks it necessary to do so. Where
another auditor has been appointed for the component, the principal auditor
would normally be entitled to rely upon the work of such auditor unless there
are special circumstances to make it essential for him to visit the component
and/or to examine the books of account and other records of the said
component. Further, it requires that the principal auditor should perform
procedures to obtain sufficient appropriate audit evidence, that the work of the
other auditor is adequate for the principal auditor's purposes, in the context of
the specific assignment. When using the work of another auditor, the principal
auditor should ordinarily perform the following procedures:
(a) advise the other auditor of the use that is to be made of the other
auditor's work and report and make sufficient arrangements for co-
ordination of their efforts at the planning stage of the audit. The principal
auditor would inform the other auditor of matters such as are as requiring
special consideration, procedures for the identification of inter -
component transactions that may require disclosure and the time-table
for completion of audit; and
(b) advise the other auditor of the significant accounting, auditing and
reporting requirements and obtain representation as to compliance with
them.
The principal auditor might discuss with the other auditor the audit procedures
applied or review a written summary of the other auditor’s procedures and
findings which may be in the form of a completed questionnaire or check-list.
The principal auditor may also wish to visit the other auditor. The nature, timing
and extent of procedures will depend on the circumstances of the engagement
and the principal auditor's knowledge of the professional competence of the
other auditor. This knowledge may have been enhanced from the review of the
previous audit work of the other auditor.
14. COST AUDIT

Cost Audit is an audit process for verifying the cost of manufacture or
production of any article, on the basis of accounts as regards utilisation of
material or labour or other items of costs, maintained by the company.
It is covered by Section 148 of the Companies Act, 2013. The audit conducted
under this section shall be in addition to the audit conducted under section
143.
As per section 148 the Central Government may by order specify audit of items
of cost in respect of certain companies.
Further, the Central Government may, by order, in respect of such class of
companies engaged in the production of such goods or providing such services
as may be prescribed, direct that particulars relating to the utilisation of
material or labour or to other items of cost as may be prescribed shall also be
included in the books of account kept by that c lass of companies.
In this regard, the Central Government has notified the Companies (Cost
Records and Audit) Rules, 2014 which prescribes the classes of companies
required to include cost records in their books of account, applicability of cost
audit, maintenance of records etc.
Applicability for Maintenance of Cost Records: Rule 3 of the Companies (Cost
Records and Audit) Rules, 2014 provides the classes of companies, engaged in
the production of goods or providing services, having an overall turnover from
all its products and services of ` 35 crore or more during the immediately
preceding financial year, required to include cost records in their books of

account. These companies include Foreign Companies defined in sub-section
(42) of section 2 of the Act, but exclude a company classified as a Micro
enterprise or a Small enterprise including as per the turnover criteria provided
under Micro, Small and Medium Enterprises Development Act, 2006. The said
rule has divided the list of companies into (A) Regulated sectors and (B) Non-
regulated sectors.
Maintenance of Cost Records: As per Rule 5 of the Companies (Cost Records
and Audit) Rules, 2014, every company under these rules including all units and
branches thereof, shall, in respect of each of its financial year, is required to
maintain cost records in Form CRA-1. The cost records shall be maintained on
regular basis in such manner as to facilitate calculation of per unit cost of
production or cost of operations, cost of sales and margin for each of its
products and activities for every financial year on monthly or quarterly or half-
yearly or annual basis.
Additionally, as per clause (vi) to Paragraph 3 of the CARO, 2016, the auditor
has to report whether maintenance of cost records has been specified by the
Central Government under section 148(1) of the Companies Act, 2013 and
whether such accounts and records have been so made and maintained.
Applicability of Cost Audit: Rule 4 of the Companies (Cost Records and Audit)
Rules, 2014 states the provisions related to the applicability of cost audit
depending on the turnover of the company as follows-
(i) Classes of companies specified under item (A) “Regulated Sectors” are
required to get its cost records audited if the overall annual turnover of
the company from all its products and services during the immediately
preceding financial year is ` 50 crore or more and the aggregate turnover
of the individual product(s) or service(s) for which cost records are
required to be maintained under rule 3 is ` 25 crore or more.
(ii) Classes of companies specified under item (B) “Non-Regulated Sectors”
are required to get its cost records audited if the overall annual turnover
of the company from all its products and services during the immediately
Who can be Cost Auditor: The audit shall be conducted by a Cost Accountant
who shall be appointed by the Board of such remuneration as may be

determined by the members in such manner as may be prescribed.
It may be noted that no person appointed under section 139 as an auditor of
the company shall be appointed for conducting the audit of cost records.
It may also be noted that the auditor conducting the cost audit shall comply
with the cost auditing standards ("cost auditing standards" mean such
standards as are issued by the Institute of Cost Accountants of India, constituted
under the Cost and Works Accountants Act, 1959, with the approval of the
Central Government).
Appointment of Cost Auditor: Rule 6 of the Companies (Cost Records and
Audit) Rules, 2014 requires the companies prescribed under the said Rules to
appoint an Auditor within 180 days of the commencement of every financial
year. However, before such appointment is made, the written consent of the
cost auditor to such appointment and a certificate from him or it shall be
obtained.
The certificate to be obtained from the cost auditor shall certify that the-
(a) the individual or the firm, as the case may be, is eligible for appointment
and is not disqualified for appointment under the Companies Act, 2013,
the Cost and Works Accountants Act, 1959 and the rules or regulations
made thereunder;
(b) the individual or the firm, as the case may be, satisfies the criteria provided
in section 141 of the Companies Act, 2013 so far as may be applicable;
(c) the proposed appointment is within the limits laid down by or under the
authority of the Companies Act, 2013; and
(d) the list of proceedings against the cost auditor or audit firm or any partner
of the audit firm pending with respect to professional matters of conduct,
as disclosed in the certificate, is true and correct.
Every referred company shall inform the cost auditor concerned of his or its
appointment as such and file a notice of such appointment with the Central
Government within a period of 30 days of the Board meeting in which such
appointment is made or within a period of 180 days of the commencement of
the financial year, whichever is earlier, through electronic mode, in Form CRA-
2, along with the fee as specified in Companies (Registration Offices and Fees)
Rules, 2014.
The cost auditor appointed as such shall continue in such capacity till the expiry
of 180 days from the closure of the financial year or till he submits the cost
audit report, for the financial year for which he has been appointed.
Removal of Cost Auditor: The cost auditor may be removed from his office before
the expiry of his term, through a board resolution after giving a reasonable
opportunity of being heard to the cost auditor and recording the reasons for such
removal in writing.
It may be noted that the Form CRA-2 to be filed with the Central Government
for intimating appointment of another cost auditor shall enclose the relevant
Board Resolution to the effect.
It may further be noted that the above provisions shall not prejudice the right
of the cost auditor to resign from such office of the company.
Casual Vacancy in the Office of a Cost Auditor: Any casual vacancy in the
office of a Cost Auditor, whether due to resignation, death or removal, shall be
filled by the Board of Directors within 30 days of occurrence of such vacancy
and the company shall inform the central government in Form CRA-2 within 30
days of such appointment of cost auditor.
Remuneration of Cost Auditor: As per rule 14 of the Companies (Audit and
Auditors) Rules, 2014-
(a) in the case of companies which are required to constitute an audit
committee-
(i) the Board shall appoint an individual, who is a cost accountant, or a
firm of cost accountants in practice, as cost auditor on the
recommendations of the Audit committee, which shall also
recommend remuneration for such cost auditor;
(ii) the remuneration recommended by the Audit Committee under (i)
shall be considered and approved by the Board of Directors and
ratified subsequently by the shareholders;
(b) in the case of other companies which are not required to constitute an
audit committee, the Board shall appoint an individual who is a cost
accountant or a firm of cost accountants in practice as cost auditor and
the remuneration of such cost auditor shall be ratified by shareholders
subsequently.
Qualification, Disqualification, Rights, Duties and Obligations of Cost

Auditor: The qualifications, disqualifications, rights, duties and obligations
applicable to auditors under this Chapter shall, so far as may be applicable,
apply to a cost auditor appointed under this section and it shall be the duty of
the company to give all assistance and facilities to the cost auditor appointed
under this section for auditing the cost records of the company.
Submission of Cost Audit Report:
(i) To the Board of Directors of the Company- The cost auditor shall submit
the cost audit report along with his reservations or qualifications or observations or
suggestions, if any, in Form CRA-3. He shall forward his report to the Board of
Directors of the company within a period of 180 days from the closure of the financial
year to which the report relates and the Board of Directors shall consider and
examine such report particularly any reservation or qualification contained therein.
(ii) To the Central Government- The company shall within 30 days from
the date of receipt of a copy of the cost audit report prepared (in pursuance of
a direction issued by Central Government) furnish the Central Government with
such report along with full information and explanation on every reservation or
qualification contained therein in Form CRA-4 in Extensible Business Reporting
Language (XBRL) format in the manner as specified in the Companies (Filing of
Documents and Forms in Extensible Business Reporting language) Rules, 2015
along with fees specified in the Companies (Registration Offices and Fees)
Rules, 2014.
Provided that the companies which have got extension of time of holding AGM
under section 96 (1) of the Companies Act, 2013, may file form CRA-4 within
resultant extended period of filing financial statements under section 137 of the
If, after considering the cost audit report and the, information and explanation
furnished by the company as above, the Central Government is of the opinion,
that any further information or explanation is necessary, it may call for such
further information and explanation and the company shall furnish the same
within such time as may be specified by that Government.
Duty to Report on Fraud: The provisions of section 143(12) of the Companies
Act, 2013 and the relevant rules on duty to report on fraud shall apply mutatis
mutandis to a cost auditor during performance of his functions under section
148 of the Act and these rules.
Cost Audit Rules Not to Apply in Certain Cases: The requirement for cost audit
under these rules shall not be applicable to a company which is covered under Rule
3, and,
(i) whose revenue from exports, in foreign exchange, exceeds 75% of its total
revenue; or
(ii) which is operating from a special economic zone.
(iii) which is engaged in generation of electricity for captive consumption
through Captive Generating Plant.
Penal Provisions in Case of Default: If any default is made in complying with
the provisions of this section,
(a) the company and every officer of the company who is in default shall be
punishable in the manner as provided in sub-section (1) of section 147;
(b) the cost auditor of the company who is in default shall be punishable in
the manner as provided in sub-sections (2) to (4) of section 147.
15. PUNISHMENT FOR NON-COMPLIANCE

contravention:
(1) If any of the provisions of sections 139 to 146 (both inclusive) is
contravened, the company shall be punishable with fine which shall not
be less than twenty-five thousand rupees but which may extend to five
lakh rupees and every officer of the company who is in default shall be
punishable with imprisonment for a term which may extend to one year
or with fine which shall not be less than ten thousand rupees but which
(2) If an auditor of a company contravenes any of the provisions of section
139 section 143, section 144 or section 145, the auditor shall be
punishable with fine which shall not be less than twenty-five thousand
rupees but which may extend to five lakh rupees or four times the
It may be noted that if an auditor has contravened such provisions
knowingly or willfully with the intention to deceive the company or its
shareholders or creditors or tax authorities, he shall be punishable with
imprisonment for a term which may extend to one year and with fine
which shall not be less than fifty thousand rupees but which may extend
to twenty-five lakh rupees or eight times the remuneration of the
auditor, whichever is less .
(3) Where an auditor has been convicted under sub-section (2), he shall be liable
to-
(i) refund the remuneration received by him to the company;
(ii) and pay for damages to the company statutory bodies or authorities
or to members or creditors of the company for loss arising out of
incorrect or misleading statements of particulars made in his audit
report.
(4) The Central Government shall, by notification, specify any statutory body
or authority of an officer for ensuring prompt payment of damages to the
company or the persons under clause (ii) of sub-section (3) and such
body, authority or officer shall after payment of damages the such
company or persons file a report with the Central Government in respect
of making such damages in such manner as may be specified in the said
notification.
(5) Where, in case of audit of a company being conducted by an audit firm,
it is proved that the partner or partners of the audit firm has or have
acted in a fraudulent manner or abetted or colluded in an fraud by, or in
relation to or by, the company or its directors or officers, the liability,
whether civil or criminal as provided in this Act or in any other law for the
time being in force, for such act shall be of the partner or partners
concerned of the audit firm and of the firm jointly and severally.
It may be noted that in case of criminal liability of an audit firm, in respect of
liability other than fine, the concerned partner(s), who acted in a fraudulent
manner or abetted or, as the case may be, colluded in any fraud shall only be
liable.
TEST YOUR KNOWLEDGE

Correct/Incorrect:
State with reasons (in short) whether the following statements are correct or
incorrect:
(i) The first auditor of a Government company was appointed by the Board
in its meeting after 10 days from the date of registration.
(ii) Director's relative can act as an auditor of the company.
(iii) If an LLP (Limited Liability Partnership Firm) is appointed as an auditor of
a company, every partner of a firm shall be authorized to act as an auditor.
(iv) AB & Co. is an audit firm having partners Mr. A and Mr. B. Mr. C, the
relative of Mr. B is holding securities having face value of ` 2,00,000 in
XYZ Ltd. AB & Co. is qualified for being appointed as an auditor of XYZ
Ltd.
(v) The auditor of a Ltd. Company wanted to refer to the minute books during
audit but board of directors refused to show the minute books to the
auditors.
(vi) Manner of rotation of auditor will not be applicable to company A, which
is having paid up share capital of ` 15 crores and having public borrowing
from nationalized bank of ` 50 crore because it is a Private Limited
Company.
(vii) The auditor should study the Memorandum and Articles of Association to
see the validity of his appointment.
(viii) Managing director of A Ltd. himself appointed the first auditor of the company.
(ix) A Chartered Accountant holding securities of S Ltd. having face value of
` 950 is qualified for appointment as an auditor of S Ltd.
(x) Mr. N, a member of the Institute of Company Secretary of India, is
qualified to be appointed as auditor of XYZ Limited.
(xi) The Board of Director of ABC Ltd., a listed company at Bombay Stock
Exchange, is required to fill the casual vacancy of an auditor only after
taking into account the recommendations of the audit committee.
(xii) Bhartiya Gas Ltd. a Government Company, the Comptroller and Auditor-
General of India shall, in respect of a financial year, appoint an auditor
duly qualified to be appointed as an auditor of companies under this Act,
within a period of 180 days from the end of the financial year, who shall
hold office till the end of the next Financial year.
(xiii) CA K has resigned as an auditor after 2 months of his appointment in NML

Ltd. He needs to file ADT-3 with the Registrar within 60 days from the
date of resignation.
(xiv) The Board of Director of ABC Ltd., a listed company at Bombay Stock
(xv) Any partner of an LLP, who is appointed as an auditor of a company, can
sign the audit report.
(xvi) Audit committee is to be constituted by every public company to ensure
better standards of corporate governance.
(xvii) XYZ Ltd is engaged in manufacture of textiles specified under prescribed
rules having total revenue of Rs.100 crore (including export turnover of
Rs.88 crores in foreign exchange) in immediately preceding financial year.
The said company is required to get cost audit conducted for immediately
preceding financial year.
(xviii) The auditor has to report under section 143 of companies act, 2013
whether company has adequate internal controls in place and overall
effectiveness of such internal controls.
(xix) Discovery of an offence of a fraud of Rs.100 lakh by auditor against the
company committed by its officers is to be reported to Serious Fraud
Investigation office(SFIO).
(xx) The concept of “joint audit” has legal foothold under the Companies Act,
2013.
1. An auditor purchased goods worth ` 501,500 on credit from a company
being audited by him. The company allowed him one month’s credit,
which it normally allowed to all known customers. Comment.
2. (a) Ram and Hanuman Associates, Chartered Accountants in practice
have been appointed as Statutory Auditor of Krishna Ltd. for the
accounting year 2017-2018. Mr. Hanuman holds 100 equity shares
of Shiva Ltd., a subsidiary company of Krishna Ltd. Comment.
(b) Managing Director of PQR Ltd. himself wants to appoint Shri
Ganpati, a practicing Chartered Accountant, as first auditor of the
company. Comment on the proposed action of the Managing

Director.
3. Under what circumstances the retiring Auditor cannot be reappointed?
4. Discuss the following:
(a) Ceiling on number of audits in a company to be accepted by an
auditor.
(b) Filling of a casual vacancy of auditor in respect of a company audit.
(c) In Joint Audit, "Each Joint Auditor is responsible only for the work
allocated to him".
5. ABC Ltd is a company incorporated in India. It has branches within and
outside India. Explain who can be appointed as an auditor of these
branches within and outside India. Also explain to whom branch auditor
is required to report.
6. Before the commencement of the audit, the joint auditors should discuss
auditors should identify division of audit areas and common audit
areas. Explain stating the other relevant considerations in this regard.
7. Board of Directors of MN Ltd. wants to appoint CA B, a practicing
Chartered Accountant, as an internal auditor of the company as they
believe that they could not appoint any other person as an internal
auditor other than practicing chartered accountant.
Examine the correctness of the statement of Board of Directors of MN Ltd.
with respect to provisions of Companies Act, 2013.
8. "CA. NM who is rendering management consultancy service to LA Ltd.
wants to accept offer letter for appointment as an auditor of the LA Ltd.
for the next financial year." Discuss with reference to the provision of the
9. Why Central Government permission is required, when the auditors are to
be removed before expiry of their term, but the same is not needed when
the auditors are changed after expiry of their term?
10. The practice of appointing Chartered Accountants as joint auditors is

quite widespread in big companies and corporations. Explain stating the
advantages of the joint audit.
11. According to Companies Act, 2013, the person appointed as an auditor of
the company shall sign the auditor's report in accordance with the
relevant provisions of the Act. Explain clearly the relevant provisions
relating to signing of report.
12. The auditor shall make a report to the members of the company on the
accounts examined by him. Explain with reference to relevant provisions
of the Companies Act, 2013.
13. “The role of audit committee in corporate governance is not limited to
making recommendation for appointment of auditors only.” Discuss.
14. The auditor has to make inquires on certain matters under section 143(1)
of Companies Act, 2013. Discuss these matters.
15. Discuss the purpose of cost audit. What are the legal provisions regarding
applicability of cost audit?
ANSWERS/SOLUTIONS
(i) Incorrect: According to section 139(7) of the Companies Act, 2013, in the
case of a Government company, the first auditor shall be appointed by
the Comptroller and Auditor- General of India within 60 days from the
date of registration of the company. If CAG fails to make the appointment
within 60 days, the Board shall appoint in next 30 days.
(ii) Incorrect: As per section 141(3) of the Companies Act, 2013, a person
shall not be eligible for appointment as an auditor of a company whose
relative is a Director or is in the employment of the Company as a director
or key Managerial Personnel.
(iii) Incorrect: As per section 141(2) of the Companies Act, 2013, where a firm
including a limited liability partnership (LLP) is appointed as an auditor of
a company, only the partners who are Chartered Accountants shall be
(iv) Incorrect: As per the provisions of the Companies Act, 2013, a person is
disqualified to be appointed as an auditor of a company if his relative is
holding any security of or interest in the company of face value exceeding

` 1 lakh.
Therefore, AB & Co. shall be disqualified for being appointed as an auditor
of XYZ Ltd. as Mr. C, the relative of Mr. B who is a partner in AB & Co., is
holding securities in XYZ Ltd. having face value of ` 2 lakh.
(v) Incorrect: The provisions of Companies Act, 2013 grant rights to the
auditor to access books of account and vouchers of the company. He is
also entitled to require information and explanations from the company.
Therefore, he has a statutory right to inspect the minute book.
(vi) Incorrect: According to section 139 of the Companies Act, 2013, the
provisions related to rotation of auditor are applicable to all private
limited companies having paid up share capital of ` 20 crore or more; and
all companies having paid up share capital of below threshold limit
institutions, banks or public deposits of ` 50 crore or more.
Although company A is a private limited company yet it is having public
borrowings from nationalized bank of ` 50 crores, therefore it would be
governed by provisions of rotation of auditor.
(vii) Incorrect: The auditor should study the Memorandum of Association to
check the objective of the company to be carried on, amount of
authorized share capital etc. and Articles of Association to check the
internal rules, regulations and ensuring the validity of transactions relating
to accounts of the company.
To see the validity of appointment, the auditor should ensure the
compliance of the provisions of section 139, 140 and 141 of the
In addition, the auditor should study the appointment letter & the
prescribed Form submitted to the Registrar of the Companies to see the
validity of his appointment.
(viii) Incorrect: As per section 139(6) of the Companies Act, 2013, the first
auditor of a company, other than a government company, shall be
appointed by the Board of directors within 30 days from the date of
Therefore, the appointment of first auditor made by the managing

director of A Ltd. is in violation of the provisions of the Companies Act,
2013.
(ix) Incorrect: As per the provisions of the Companies Act, 2013, a person is
disqualified to be appointed as an auditor of a company if he is holding
any security of or interest in the company.
As the chartered accountant is holding securities of S Ltd. having face
value of ` 950, he is not eligible for appointment as an auditor of S Ltd.
(x) Incorrect: As per section 141 of the Companies Act, 2013, a person shall
be eligible for appointment as an auditor of a company only if he is a
chartered accountant.
Thus, Mr. N is disqualified to be appointed as an auditor of XYZ Limited.
(xi) Correct: Where a company is required to constitute an Audit Committee

under section 177, all appointments, including the filling of a casual
vacancy of an auditor under this section shall be made after taking into
account the recommendations of such committee.
(xii) Incorrect- As per section 139(5), in the case of a Government company
or any other company owned or controlled, directly or indirectly, by the
Central Government, or by any State Government or Governments, or
partly by the Central Government and partly by one or more State
Governments, the Comptroller and Auditor-General of India shall, in
respect of a financial year, appoint an auditor duly qualified to be
appointed as an auditor of companies under this Act, within a period of
180 days from the commencement of the financial year, who shall hold
office till the conclusion of the annual general meeting.
(xiii) Incorrect: As per section140(2) of the Companies Act, 2013, the auditor
who has resigned from the company shall file within a period of 30 days
from the date of resignation, a statement in the prescribed Form ADT–
3(as per Rule 8 of CAAR) with the company and the Registrar.
(xiv) Correct: Where a company is required to constitute an Audit Committee
(xv) Incorrect: Section 141(2) of the Companies Act, 2013 states that where
a firm including a limited liability partnership is appointed as an auditor
of a company, only the partners who are chartered accountants shall be
(xvi) Incorrect. Under Section 177 of Companies Act, 2013 read together with
Rule 4 of Companies( Appointment and qualification of Directors) Rules,
2014 prescribe that audit committee is to be constituted by every listed
public company and following classes of public companies only:-
(i) the Public Companies having paid up share capital of ten crore
rupees or more; or
(ii) the Public Companies having turnover of one hundred crore rupees
or more; or
(iii) the Public Companies which have, in aggregate, outstanding loans,
debentures and deposits, exceeding fifty crore rupees:
Hence, the statement that all public companies are required to constitute
audit committee is incorrect.
(xvii) Incorrect. The provisions of cost audit are not applicable in case of
companies having revenue from exports in foreign exchange being more
than 75% of its total revenue. As the company is having export turnover
of Rs.88 crore in total revenues of Rs.100 core, the provisions of cost audit
are not applicable to the said company.
(xviii) Incorrect: Under provisions of Section 143 of the companies Act, 2013,
auditor has to report whether the company has adequate internal financial
controls with reference to financial statements in place and operating
effectiveness of such controls. The auditor has to report on adequacy and
effectiveness of internal financial controls only and not internal controls.
(xix) Incorrect: Fraud of Rs.100.00 lakhs or above (i.e. Rs.1.00 crore or above)
has to be reported to Central government ( precisely to Secretary, Ministry
of Corporate affairs) in Form ADT-4.
(xx) Correct: Under provisions of section 139(3), the members of a company
may resolve to provide that audit shall be conducted by more than one
auditor. Hence, the concept of “joint audit” has legal foothold also under
Answers to Theoretical Questions

1. Purchase of Goods on Credit by the Auditor: Section 141(3)(d)(ii) of the
Companies Act, 2013 specifies that a person shall be disqualified to act as an
auditor if he is indebted to the company for an amount exceeding five lakh
rupees.
Where an auditor purchases goods or services from a company audited
by him on credit, he is definitely indebted to the company and if the
amount outstanding exceeds rupees five lakh, he is disqualified for
appointment as an auditor of the company.
It will not make any difference if the company allows him the same period
of credit as it allows to other customers on the normal terms and
conditions of the business. The auditor cannot argue that he is enjoying
only the normal credit period allowed to other customers. In fact, in such
a case he has become indebted to the company and consequently he has
deemed to have vacated his office.
2. (a) Auditor Holding Securities of a Company: As per sub-section
(3)(d)(i) of Section 141 of the Companies Act, 2013 read with Rule
10 of the Companies (Audit and Auditors) Rule, 2014, a person shall
not be eligible for appointment as an auditor of a company, who, or
his relative or partner is holding any security of or interest in the
company or its subsidiary, or of its holding or associate company or
a subsidiary of such holding company. However, the relative may
hold security or interest in the company of face value not exceeding
` 1 lakh.
Also, as per sub-section 4 of Section 141 of the Companies Act,
2013, where a person appointed as an auditor of a company incurs
any of the disqualifications mentioned in sub-section (3) after his
appointment, he shall vacate his office as such auditor and such
vacation shall be deemed to be a casual vacancy in the office of the
auditor.
In the present case, Mr. Hanuman, Chartered Accountant, a partner
of M/s Ram and Hanuman Associates, holds 100 equity shares of
Shiva Ltd. which is a subsidiary of Krishna Ltd. Therefore, the firm,
M/s Ram and Hanuman Associates would be disqualified to be
appointed as statutory auditor of Krishna Ltd., which is the holding
company of Shiva Ltd., because one of the partners Mr. Hanuman is

holding equity shares of its subsidiary.
(b) Appointment of First Auditor of Company: Section 139(6) of the
Companies Act, 2013 lays down that the first auditor or auditors of
a company shall be appointed by the Board of directors within 30
days from the date of registration of the company.
In the instant case, the appointment of Shri Ganapati, a practicing
Chartered Accountant as first auditors by the Managing Director of
PQR Ltd. by himself is in violation of Section 139(6) of the
Companies Act, 2013, which authorizes the Board of Directors to
appoint the first auditor of the company within 30 days of
In view of the above, the Managing Director of PQR Ltd. should be
advised not to appoint the first auditor of the company.
3. Circumstances where Retiring Auditor Cannot be Reappointed: In the
following circumstances, the retiring auditor cannot be reappointed-
(i) A specific resolution has not been passed to reappoint the retiring
auditor.
(ii) The auditor proposed to be reappointed does not possess the
qualification prescribed under section 141 of the Companies Act,
2013.
(iii) The proposed auditor suffers from the disqualifications under
section 141(3), 141(4) and 144 of the Companies Act, 2013.
(iv) He has given to the company notice in writing of his unwillingness
to be reappointed.
(v) A resolution has been passed in AGM appointing somebody else or
providing expressly that the retiring auditor shall not be
reappointed.
(vi) A written certificate has not been obtained from the proposed
auditor to the effect that the appointment or reappointment, if
made, will be in accordance within the limits specified under section
4. Hints:
(a) Refer Para 7 Ceiling on number of Audits.
(b) Refer Para 2.3 Filling of a Casual Vacancy
(c) Refer Para 12 Joint Audit.
5. Sub-section (8) of section 143 of the Companies Act, 2013, prescribes the
duties and powers of the company’s auditor with reference to the audit
of the branch and the branch auditor. Where a company has a branch
office, the accounts of that office shall be audited either by the auditor
appointed for the company (herein referred to as the company's auditor)
under this Act or by any other person qualified for appointment as an
auditor of the company under this Act and appointed as such under
section 139, or where the branch office is situated in a country outside
India, the accounts of the branch office shall be audited either by the
company's auditor or by an accountant or by any other person duly
qualified to act as an auditor of the accounts of the branch office in
accordance with the laws of that country and the duties and powers of
the company' s auditor with reference to the audit of the branch and the
branch auditor, if any, shall be such as may be prescribed:
It may be noted that the branch auditor shall prepare a report on the
accounts of the branch examined by him and send it to the auditor of the
company who shall deal with it in his report in such manner as he
considers necessary.
reporting of fraud by the auditor shall also extend to such branch auditor
to the extent it relates to the concerned branch.
6. Before the commencement of the audit, the joint auditors should
discuss and develop a joint audit plan. In developing the joint audit
plan, the joint auditors should:
are significant

(7) 1. As per section 138, the internal auditor shall either be a chartered
accountant or a cost accountant (whether engaged in practice or
not).
2. Or such other professional as may be decided by the Board to
conduct internal audit of the functions and activities of the
companies.
3. The internal auditor may or may not be an employee of the
company.
Hence, the belief of Company is not correct.
8. Section 141(3)(i) of the Companies Act, 2013 disqualifies a person for
appointment as an auditor of a company who is engaged as on the date
of appointment in management consultancy service as provided in
section 144. Section 144 of the Companies Act, 2013 prescribes certain
services not to be rendered by the auditor which are as under:
(i) Accounting and book keeping services
(ii) Internal audit.
(iii) Design and implementation of any financially information system.
(iv) Actuarial services
(v) Investment advisory services.
(vi) Investment banking services.
(vii) Rendering of outsourced financial services
(viii) Management services and
(ix) Any other kind of services as may be prescribed
Therefore, CA. NM is advised not to accept the assignment of auditing as
the management consultancy service is specifically notified in the list of
services not to be rendered by him as per section 141(3)(i) read with

section 144 of the Companies Act, 2013.
9. Permission of Central Government for Removal of Auditor Under
Section 140(1) of the Companies Act, 2013: Removal of auditor before
expiry of his term i.e. before he has submitted his report is a serious
matter and may adversely affect his independence.
Further, in case of conflict of interest the shareholders may remove the
auditors in their own interest.
Therefore, law has provided this safeguard so that central government
may know the reasons for such an action and if not satisfied, may not
accord approval.
On the other hand if auditor has completed his term i.e. has submitted his
report and thereafter he is not re-appointed then the matter is not serious
enough for central government to call for its intervention.
In view of the above, the permission of the Central Government is required
when auditors are removed before expiry of their term and the same is
not needed when they are not re-appointed after expiry of their term.
10. Joint Audit: The practice of appointing Chartered Accountants as joint
auditors is quite widespread in big companies and corporations. Joint
audit basically implies pooling together the resources and expertise of
more than one firm of auditors to render an expert job in a given time
period which may be difficult to accomplish acting individually. It
essentially involves sharing of the total work. This is by itself a great
advantage.
(vi) Displacement of the auditor of the company taken over in a
takeover often obviated.
(vii) In respect of multi-national companies, the work can be spread

using the expertise of the local firms which are in a better position
to deal with detailed work and the local laws and regulations.
(x) A sense of healthy competition towards a better performance
11. Duty to Sign the Audit Report: As per section 145 of the Companies
Act, 2013, the person appointed as an auditor of the company shall sign
the auditor's report or sign or certify any other document of the company,
in accordance with the provisions of section 141(2).
general meeting.
12. Right to report to the members of the company on the accounts
examined by him – The auditor shall make a report to the members of
the company on the accounts examined by him and on every financial
statements which are required by or under this Act to be laid before the
company in general meeting and the report shall after taking into account
the provisions of this Act, the accounting and auditing standards and
matters which are required to be included in the audit report under the
provisions of this Act or any rules made there under or under any order
made under this section and to the best of his information and
view of the state of the company’ s affairs as at the end of its financial
year and profit or loss and cash flow for the year and such other matters
as may be prescribed.
13. Audit committee performs wide functions. The recommendation for
appointment of auditors is only one of the several functions performed
by audit committee. Under section 177 of companies Act, 2013, audit
committee is responsible for following actions :-
(i) the recommendation for appointment, remuneration and terms of

appointment of auditors of the company;]
(ii) review and monitor the auditor’s independence and performance,
and effectiveness of audit process;
(iii) examination of the financial statement and the auditors’ report
thereon;
(iv) approval or any subsequent modification of transactions of the
company with related parties;
(vi) valuation of undertakings or assets of the company, wherever it is
necessary;
(vii) evaluation of internal financial controls and risk management
systems;
(viii) monitoring the end use of funds raised through public offers and
related matters.
Hence, audit committee oversees range of matters including those related
to making recommendation for appointment of auditors etc.
14. The auditor has to make inquires on following matters under section
143(1) of Companies Act, 2013:-
shown as deposits;
misleading
15. The purpose of cost audit is to verify the cost of manufacture or
production of any article, on the basis of accounts as regards utilisation
of material or labour or other items of costs, maintained by the company.
Rule 4 of the Companies (Cost Records and Audit) Rules, 2014 states the
provisions related to cost audit are applicable depending on the turnover
of the company as follows-
(i) Classes of companies specified under item (A) “Regulated Sectors”
are required to get its cost records audited if the overall annual
turnover of the company from all its products and services during
the immediately preceding financial year is ` 50 crore or more and
the aggregate turnover of the individual product(s) or service(s) for
which cost records are required to be maintained under rule 3 is
` 25 crore or more.
(ii) Classes of companies specified under item (B) “Non-Regulated
Sectors” are required to get its cost records audited if the overall
annual turnover of the company from all its products and services
during the immediately preceding financial year is ` 100 crore or
more and the aggregate turnover of the individual product(s) or
service(s) for which cost records are required to be maintained
under rule 3 is ` 35 crore or more.
However, the requirement for cost audit does not apply to the following
companies:-
(i) whose revenue from exports, in foreign exchange, exceeds seventy
five per cent of its total revenue; or
(ii) Which is operating from a special economic Zone.
(iii) which is engaged in generation of electricity for captive
consumption through Captive Generating PIant.

Case Scenario - 1
Ms. Rhea was among the promoters who set up a public company by the name "Aksham Ltd".
The company appointed CA Rajendra as the auditor of Aksham Ltd. CA Rajendra is the brother
of one of the directors of Aksham Ltd. After setting up of company, the company had a dispute
with one customer of the company in year 2019-20 who took the company to court. There are
probable chances that company will have to shelve out `50 lakhs as compensation but the case
will likely to be finalised in year 2021-22.
CA Rajender considers the fact that Askham Ltd has a present obligation and it is probable that
an outflow of resources embodying economic benefits will be required to settle the obligation
and that a reliable estimate i.e. ` 50 Lakhs can be made of the amount of the obligation.
Aksham Ltd. declared dividend of ` 10 per equity share on 10 th April,2021. The financial
statements were approved on 30th June,2021. Askham Ltd took loan of ` 65 lakhs from
Saksham Bank for a period of 10 years; the loan amount was guaranteed by Mr. Pramod, one
of the directors of Aksham Ltd. The loan was completely secured against the fixed assets of the
company. Aksham Ltd drew designs of one of the products of the company and this product
constituted 90 % sales of the company. The designs of the product were such that the sale of
the company will increase every year for the next 5 years. Aksham Ltd booked the designs of
the company at a value of ` 1 crore in the books of account of the company as intangibles at its
cost.
1. State whether appointment of CA Rajendra is correct in law.
(a) Yes, it is correct in law as per Companies Act, 2013
(b) It is incorrect in law as per Companies Act, 2013 as the relative of director is not
allowed to be appointed as an auditor of the company.
(c) It is correct in law as per Companies Act, 2013 because brother is not covered under
the definition of relative.
(d) It is correct as appointment of auditor is not governed by any law in India.
2. Advise the company regarding the course of action Aksham Ltd will have to follow for the
court case for financial statements prepared for year ending 31st March, 2021
(a) create provision
(b) create revenue reserve
(c) create capital reserve
(d) to be disclosed as contingent liability

3. What is the action which Aksham Ltd is supposed to take with regard to treatment of
dividend declared while preparing and finalizing financial statements for year ending 31st
March,2021?
(a) recognise dividends as a liability
(b) disclose the amount of dividend
(c) both a and b
(d) none of the above.
4. State the disclosures Aksham Ltd is required to make with respect to the long-term
borrowings taken from Saksham Bank.
I. Secured loan from Saksham Bank.
II. The fixed assets are secured against the loan
III. The loan of ` 65 lakhs is guaranteed by director.
IV. Repayment terms of the loan
(a) I, II, III and IV
(b) I, II
(c) I, II, III
(d) II, III
5. State which of the following statement is true with respect to recording an intangible in the
books of the company.
(a) Intangible is correctly booked by the company.
(b) Intangible is wrongly booked by the company as an intangible cannot be booked as
per the accounting standard of India.
(c) Intangible is wrongly booked by the company as an intangible cannot be booked as
per the auditing standards of India.
(d) Intangible is wrongly booked by the company as an intangible cannot be booked as
per the Companies Act, 2013.
Case Scenario - 2
Best Tea House is a Co-operative society formed as per the provisions of the Co-operative
Societies Act, 1912. It runs a chain of restaurants serving mainly tea and snacks in Delhi. RAS
& Associates, a Chartered Accountant firm, has been appointed to conduct the statutory audit
of the society. None of the partners of the firm, CA R, CA A and CA S have ever conducted a
Co-operative Society audit before and so familiarise themselves with the provisions of the
particular Act governing the society before starting the audit.
During the audit, Best Tea House informs the auditors that they have been in operation for the
last five years, and no audit was required earlier since their turnover had not exceeded the
prescribed limit.
While examining the books of account of Best Tea House, RAS & Associates notice that as
stated under section 43(h) of the Central Act, certain rules were framed prescribing the books
and accounts to be kept by Best Tea House.
The auditors also understand that according to section 5 of the Central Act, in the case of a
society where the liability of a member of the society is limited, no member of a society other
than a registered society can hold such portion of the share capital of the society as would
exceed a maximum of a certain percentage of the total number of shares or of the value of
shareholding to a specified amount. RAS & Associates were concerned with this provision so
as to watch any breach relating to holding of shares.
While examining the loans of Best Tea House, the auditors notice that the society has given a
loan to a relative named Mr. P, of a member of the society, Mr. T, of an amount not exceeding
` 1000.
RAS & Associates examined the overdue debts and checked its classification which they are
required to report.
During the audit, RAS & Associates notice few transactions for personal profiteering by
members of the management committee, which are ultimately detrimental to the interest of the
society. RAS & Associates report this matter to the required authority to take necessar y action.
After the conclusion of the audit, in addition to the audit certificate in the prescribed form and
various schedules, RAS & Associates also answered two sets of questionnaires called audit
memos. The auditors also submitted the audit report in a narrative form addressed to the
Chairman of the society which was divided into two parts styled as part I and part II.
1. According to section 5 of the Central Act, what is maximum percentage of the total number
of shares and what is the maximum value of shareholding that RAS & Associates were
concerned with, so as to watch any breach relating to holding of shares?
(a) Twenty-five percent of the total number of shares or of the value of shareholding upto
` 5,000
(b) Twenty percent of the total number of shares or of the value of shareholding upto
` 5,000
(c) Twenty-five percent of the total number of shares or of the value of shareholding upto
` 1,000
(d) Twenty percent of the total number of shares or of the value of shareholding upto
` 1,000
2. As per Section 29 of the Central Act, Best Tea House cannot give a loan to any person
other than:
(a) A member and with the special sanction of the Registrar, relatives of the member not
exceeding an amount of ` 1000.
(b) A member and with the special sanction of the Registrar, another registered society.
(c) A member and with the special sanction of the Registrar, relatives of the member.
(d) A member and with the special sanction of the Registrar, another registered society
not exceeding an amount of ` 1000.
3. Overdue debts for a period from _____________to_______ and more than _____ were
classified and reported by RAS & Associates.
(a) 3 months to 6 months and more than 6 months.
(b) 6 months to 3 years and more than 3 years.
(c) 6 months to 5 years and more than 5 years.
(d) 3 months to 5 years and more than 5 years.
4. To whom does RAS & Associates report the few transactions noticed during audit?
(a) Registrar of Co-operative Societies
(b) Secretary of Best Tea House.
(c) State Government
(d) Management Committee of Best Tea House
5. Mistakes having an impact on the profitability of society were pointed out by RAS &
Associates as it had a consequential effect on the financial position of society. In which of
the following submissions was this information included?
(a) Part I of the audit report
(b) Part II of the audit report
(c) Schedules to the audit report
(d) Audit memos
General MCQs
1. To jointly audit books of accounts of WZ Limited for the financial year 2020-21 two different
firms of Chartered Accountants namely MH and Associates and NR and Associates were
appointed. MH and Associates and NR and Associates can together be called as:
(a) Principal Auditors of WZ Limited.
(b) Branch Auditors of WZ Limited.
(c) Individual Auditors of WZ Limited.
(d) Joint Auditors of WZ Limited.

2. Mr. H and his team members carefully watched the whole process of counting of finished
wooden doors by employees of Bottom Limited. This is an example of which audit
procedure:
(a) External Confirmation.
(b) Observation.
(c) Inquiry.
(d) Inspection.
3. Under section 43(h) of the Central Act, who can frame rules prescribing the books and
accounts to be kept by a co-operative society?
(a) Central Government
(b) State Government
(c) Management Committee of the Society.
(d) Secretary of the Co-operative Society.
4. ………….. is the threat which occurs when auditors are deterred from acting objectively
with an adequate degree of professional skepticism.
(a) Familiarity threat
(b) Advocacy threat
(c) Self Review threat
(d) Intimidation threat
obligations related to the accountability of the entity are :
(a) management
(c) audit committee
(i) One of the objectives of the written representation is to support other audit evidence
relevant to the financial statements
(ii) computer software which is the integral part of the related hardware should be treated
as fixed asset/tangible asset.
(iii) The auditor appointed under section 139 may be removed from his office before the
expiry of his term by Board resolution only.
(iv) The matter of difficulty, time, or cost involved is in itself a valid basis for the auditor
to omit an audit procedure for which there is no alternative.
(v) The auditor must include in audit documentation superseded drafts of working papers
and financial statements, notes that reflect incomplete or preliminary thinki ng etc.
(vi) If the auditor assesses a risk of material misstatement regarding litigation or claims
that have been identified, the auditor need not seek direct communication with the
entity’s external legal counsel.
(vii) Collateral security refers to the security offered by the borrower for bank finance or
the one against which credit has been extended by the bank. This security is the
principal security for an advance.
(viii) The first auditor or auditors of a Multi-State co-operative society shall be appointed
by the board within one month of the date of registration of such society
2. (a) The knowledge of human behaviour is indeed very essential for an auditor so as to
effectively discharge his duties. Explain.
(b) Discuss few guiding principles which are behind safeguards to eliminate threats to
auditor’s independence.
3. (a) The firm should establish policies and procedures designed to provide it with
reasonable assurance that it has sufficient personnel with the capabilities,
competence, and commitment to ethical principles. Discuss the personnel issues
addressed by such policies and procedures. Also explain how addressing the
personnel issues would empower the firm.
(b) There are practical and legal limitations on the auditor’s ability to obtain audit
evidence. Explain giving examples.
members and review of their work vary depending on many factors. Explain those
factors.
and developing an audit plan. Adequate planning benefits the audit of financial
statements in several ways. Explain clearly those ways.
5. What could be considered material for all situations cannot be defined precisely and an
amount or transaction material in one situation may not be material in other situation.
Explain.

6. While doing audit of ABC Pvt Ltd, on the basis of sufficient and appropriate evidence,
auditor comes to a conclusion that use of the Going Concern Basis of Accounting is
appropriate, but a material uncertainty exists. Discuss the implications for auditor’s report
if:
(a) Adequate Disclosure of a Material Uncertainty is Made in the Financial Statements
(b) Adequate Disclosure of a Material Uncertainty is Not Made in the Financial
Statements
7. (a) Give examples of financial events or conditions that, individually or collectively, may
cast significant doubt on the entity’s ability to continue as a going concern.
(b) SA 560, “Subsequent Events” deals with the auditor’s responsibilities relating to
subsequent events in an audit of financial statements. Financial statements may be
affected by certain events that occur after the date of the financial statements. Many
financial reporting frameworks specifically refer to such events. Explain those events
and also define subsequent events
8. The auditor has a responsibility to perform audit procedures to identify, assess and
respond to the risks of material misstatement arising from the entity’s failure to
appropriately account for related party relationships, transactions or balances.
During the audit, the auditor should maintain alertness for related party information while
reviewing records and documents. He may inspect the records or documents that may
provide information about related party relationships and transactions. Explain in detail
with examples.
9. (a) Significant risks often relate to significant non- routine transactions or judgmental
matters. Non-routine transactions are transactions that are unusual, due to either size
or nature, and that therefore occur infrequently. Judgmental matters may include the
development of accounting estimates for which there is significant measurement
uncertainty.
In context of significant risk, explain the factors to be considered by the auditor in
exercising judgment as to which risks are significant risks.
(b) Risks of material misstatement may be greater for significant non-routine transactions
arising from matters such as complex calculations. Also, risks of material
misstatement may be greater for significant judgmental matters that require the
development of accounting estimates, arising from matters such as accounting
principles for accounting estimates may be subject to differing interpretation etc.
Explain in detail.
10. (a) Explain clearly the difference between Internal Financial Control and Internal Controls
over financial reporting.
(b) Auditor’s reporting on internal financial controls is a requirement specified in the Act
and, therefore, will apply only in case of reporting on financial statements prepared
under the Act and reported under Section 143. Explain in detail quoting specifically
the Law in the above context covering each and every aspect.
task requiring great tact and intelligence because generally management personnel in
higher management cadre are associated with this type of fraud and this is perpetrated in
methodical way. Explain why such frauds are committed.
12. Misappropriation of assets involves the theft of an entity’s assets and is often perpetrated
by employees in relatively small and immaterial amounts. However, it can also involve
management who are usually more able to disguise or conceal misappropriations in ways
that are difficult to detect.
Misappropriation of assets can be accomplished in a variety of ways. Explain those
particular ways.
13. The auditor should consider relevance of IT in an audit of financial statements. Explain
giving reasons.
14. Describe how risks in IT systems, if not mitigated, could have an impact on audit .
15. When designing an audit sample, the auditor shall consider the purpose of the audit
procedure and the characteristics of the population from which the sample will be drawn.
Explain in detail.
16. In considering the characteristics of the population from which the sample will be drawn,
the auditor may determine that stratification or value-weighted selection technique is
appropriate. Guide the auditor on the use of stratification and value-weighted sampling
techniques.
17. For the purposes of the SAs, the term “analytical procedures” means evaluations of
financial information through analysis of plausible relationships among both financial and
non-financial data. Explain giving examples of both.
18. Analysis by computation of ratios includes the study of relationships between financial
statement amounts. State Commonly used ratios.

19. Explain how you will verify the items given while conducting an audit of an entity :
(a) Recovery of Bad debts written off
(b) Receipt of Insurance claims
(c) Payment of Taxes
(d) Sale proceeds of scrap material
20. APQ Ltd. deals in real estate and classifies all of its land holding under current assets as
inventory. The same is, therefore valued at cost or market value whichever is less. How
would you verify profit or loss arising on sale of plots of land by such a deal er?
21. Under the provisions of Section 141(3) of Companies Act, 2013 along with relevant rules,
a person or a firm who has “business relationship” with a company is not eligible to be
appointed as an auditor of that company. In this context, discuss meaning of term
“business relationship”.
22. Discuss significance of a company auditor’s right/power to obtain information and
explanation from officers of the company.
23. Explain the Reporting requirements the auditor should ensure under CARO 2016 related
to fixed assets.
24. As an auditor of listed company, what are the matters that the auditor should keep in mind
while determining "Key Audit Matters".
25. Delightful Ltd. is a company engaged in the production of smiley balls. During the FY 2020-
21 the company transferred its accounts to computerised system (SAP) from manual
system of accounts. Since the employees of the company were not well versed with the
SAP system, there were many errors in the accounting during the transition period. As
such the statutory auditors of the company were not able to extract correct data and reports
from the system. Such data was not available manually also. Further, the employees and
the management of the company were not supportive in providing the requisite information
to the audit team. The auditor believes that the possible effects on the financial statements
of undetected misstatements could be both material and pervasive.
Explain the kind of audit report that the statutory auditor of the company should issue in
this case.
26. The engagement team discussion ordinarily includes a discussion of the matters such as
- Errors that may be more likely to occur; Errors which have been identified in prior years;
Method by which fraud might be perpetrated by bank personnel or others within particular
account balances and/or disclosures; etc.
In the above context, explain the advantages of such a discussion.
27. In carrying out an audit of interest expense, the auditor is primarily concerned with
assessing the overall reasonableness of the amount of interest expense. Analyse and
explain stating the audit approach and procedure in regard to interest expense.
28. (a) The external control of municipal expenditure is exercised by the state governments
through the appointment of auditors to examine municipal accounts. Explain stating
important objectives of audit of such bodies.
(b) While planning the audit of an NGO, the auditor may focus on Knowledge of the
NGO’s work, its mission and vision, Updating knowledge of relevant statutes
especially with regard to recent amendments, circulars etc. Explain the other relevant
points the auditor needs to focus while planning the audit of NGO.
SUGGESTED ANSWERS
ANSWERS - MULTIPLE CHOICE QUESTIONS- Case Scenario-1

1. (b)
2. (a)
3. (b)
4. (a)
5. (a)
1. (d)
2. (b)
3. (c)
4. (a)
5. (b)
General MCQ’s
1. (d)
2. (b)
3. (b)
4. (d)
5. (b)
Descriptive Answers
1. (i) Correct: One of the objectives of the written representation is to support other audit
evidence relevant to the financial statements or specific assertions in the financial
statements by means of written representation. Written representations cannot be a
substitute for other evidence that the auditor could expect to be reasonably available.
(ii) Correct: As per AS-26 on Intangible Assets, computer software for a computer
controlled machine tool that cannot operate without that specific software is an
integral part of the related hardware and it is treated as a fixed asset. Therefore,
computer software which is the integral part of the related hardware should be treated
as fixed asset/tangible asset.
(iii) Incorrect: According to Section 140(1), the auditor appointed under section 139 may
be removed from his office before the expiry of his term only by a special resolution
of the company, after obtaining the previous approval of the Central Government in
that behalf as per Rule 7 of CAAR, 2014.
(iv) Incorrect: The matter of difficulty, time, or cost involved is not in itself a valid basis
for the auditor to omit an audit procedure for which there is no alternative.
Appropriate planning assists in making sufficient time and resources available for the
conduct of the audit. Notwithstanding this, the relevance of information, and thereby
its value, tends to diminish over time, and there is a balance to be struck between the
reliability of information and its cost.
(v) Incorrect: The auditor need not include in audit documentation superseded drafts of
working papers and financial statements, notes that reflect incomplete or preliminary
thinking, previous copies of documents corrected for typographical or other errors,
and duplicates of documents.
(vi) Incorrect: If the auditor assesses a risk of material misstatement regarding litigation
or claims that have been identified, or when audit procedures performed indicate that
other material litigation or claims may exist, the auditor shall, in addition to the
procedures required by other SAs, seek direct communication with the entity’s
external legal counsel.
(vii) Incorrect: Primary security refers to the security offered by the borrower for bank
finance or the one against which credit has been extended by the bank. This security
is the principal security for an advance.
Collateral security is an additional security. Security can be in any form i.e. tangible
or intangible asset, movable or immovable asset.
(viii) Correct: Section 70 of the Multi-State Co-operative Societies Act, 2002 provides that
the first auditor or auditors of a Multi-State co-operative society shall be appointed by
the board within one month of the date of registration of such society and the auditor
or auditors so appointed shall hold office until the conclusion of the first annual
general meeting. If the board fails to exercise its powers under this sub -section, the
Multi-State co-operative society in the general meeting may appoint the first auditor
or auditors.
2. (a) The field of auditing as a discipline involves review of various assertions; both in
financial as well as in non-financial terms, with a view to prove the veracity of such
assertions and expression of opinion by auditor on the same. Thus, it is quite logical
and natural that the function of audit can be performed if and only if the person also
possesses a good knowledge about the fields in respect of which he is conducting
such a review.
The discipline of behavioural science is closely linked with the subject of auditing.
While it may be said that an auditor, particularly the financial auditor, deals basically
with the figures contained in the financial statements but he shall be required to
interact with a lot of people in the organisation. As against the financial auditor, the
internal auditor or a management auditor is expected to deal with human beings rather
than financial figures. One of the basic elements in designing the internal control
system is personnel. Howsoever, if a sound internal control structure is designed, it
cannot work until and unless the people who are working in the organisation are
competent and honest. The knowledge of human behaviour is indeed very essential
for an auditor so as to effectively discharge his duties.
(i) For the public to have confidence in the quality of audit, it is essential that
auditors should always be and appears to be independent of the entities that
they are auditing.
(ii) In the case of audit, the key fundamental principles are integrity, objectivity and
professional skepticism, which necessarily require the auditor to be
independent.
(iii). Before taking on any work, an auditor must conscientiously consider whether it
(iv) When such threats exist, the auditor should either desist from the task or put in
place safeguards that eliminate them.
(v) If the auditor is unable to fully implement credible and adequate safeguards,
then he must not accept the work.
3. (a) The firm should establish policies and procedures designed to provide it with
reasonable assurance that it has sufficient personnel with the capabilities,
competence, and commitment to ethical principles necessary to perform its
engagements in accordance with professional standards and regulatory and legal
requirements, and to enable the firm or engagement partners to issue reports that are
Such policies and procedures address the following personnel issues:
(a) Recruitment;
(b) Performance evaluation;
(c) Capabilities;
(d) Competence;
(e) Career development;
(f) Promotion;
(g) Compensation; and
(h) Estimation of personnel needs.
Addressing these issues enables the firm to ascertain the number and characteristics
of the individuals required for the firm’s engagements. The firm’s recruitment
processes include procedures that help the firm select individuals of integrity as well
as the capacity to develop the capabilities and competence necessary to perform the
firm’s work.
(b) There are practical and legal limitations on the auditor’s ability to obtain audit
evidence. For example:
auditor.
1. The size and complexity of the entity.
2. The area of the audit.
3. The assessed risks of material misstatement (for example, an increase in the
assessed risk of material misstatement for a given area of the audit ordinarily
requires a corresponding increase in the extent and timeliness of direction and
supervision of engagement team members, and a more detailed review of their
work).
4. The capabilities and competence of the individual team members performing the
audit work.
and developing an audit plan. Adequate planning benefits the audit of financial
statements in several ways, including the following:
• Helping the auditor to devote appropriate attention to important areas of the
audit.
• Helping the auditor identify and resolve potential problems on a timely basis.
• Helping the auditor properly organize and manage the audit engagement so that
it is performed in an effective and efficient manner.
• Assisting in the selection of engagement team members with appropriate levels
of capabilities and competence to respond to anticipated risks, and the proper
assignment of work to them.
• Facilitating the direction and supervision of engagement team members and the
• Assisting, where applicable, in coordination of work done by auditors of
components and experts.
5. Materiality is an important consideration for an auditor to evaluate whether the financial
statements reflect a true and fair view or not. SA 320 on “Materiality in Planning and
Performing an Audit” requires that an auditor should consider materiality and its
relationship with audit risk while conducting an audit. When planning the audit, the auditor
considers what would make the financial information materially misstated. The auditor’s
preliminary assessment of materiality related to specific account balances and classes of
transactions helps the auditor decide such questions as what items to examine and
whether to use sampling and analytical procedures. This enables the auditor to select audit
procedures that, in combination, can be expected to support the audit opinion at an
acceptably low degree of audit risk. It may be noted that the auditor’s assessment of
materiality and audit risk may be different at the time of initially planning of the audit as
against at the time of evaluating the results of audit procedures.
At the planning stage, the auditor needs to consider the materiality for the financial
statements as a whole. The auditor has to carry out a preliminary identification of significant
components and material classes of transactions, account balances and disclosure which
he plans to examine. What could be considered material for all situations cannot be defined
precisely and an amount or transaction material in one situation may not be material in
other situation. For example, ` 5,000 may be material for a small entity, but even ` 100,000
may not be material for a large entity.
6. Use of the Going Concern Basis of Accounting is Appropriate but a Material
Uncertainty Exists
The identification of a material uncertainty is a matter that is important to users’
understanding of the financial statements. The use of a separate section with a heading
that includes reference to the fact that a material uncertainty related to going concern exists
alerts users to this circumstance.
(a) Adequate Disclosure of a Material Uncertainty is Made in the Financial
Statements
If adequate disclosure about the material uncertainty is made in the financial
statements, the auditor shall express an unmodified opinion and the auditor’s report
shall include a separate section under the heading “Material Uncertainty Related to
Going Concern.”
(b) Adequate Disclosure of a Material Uncertainty is Not Made in the Financial
Statements
If adequate disclosure about the material uncertainty is not made in the financial
statements, the auditor shall:
(a) Express a qualified opinion or adverse opinion, as appropriate, in accordance
with SA 705 (Revised); and
(b) In the Basis for Qualified (Adverse) Opinion section of the auditor’s report, state
that a material uncertainty exists that may cast significant doubt on the entity’s
ability to continue as a going concern and that the financial statements do not
adequately disclose this matter.
7. (a) The following are examples of Financial events or conditions that, individually or
collectively, may cast significant doubt on the entity’s ability to continue as a going
concern :
 Net liability or net current liability position.
 Fixed-term borrowings approaching maturity without realistic prospects of

renewal or repayment; or excessive reliance on short-term borrowings to finance
long-term assets.
 Indications of withdrawal of financial support by creditors.
 Negative operating cash flows indicated by historical or prospective financial
statements.
 Adverse key financial ratios.
(b) SA 560, “Subsequent Events” deals with the auditor’s responsibilities relating to
subsequent events in an audit of financial statements.
Financial statements may be affected by certain events that occur after the date of
the financial statements. Many financial reporting frameworks specifically refer to
such events. Such financial reporting frameworks ordinarily identify two types of
events:
(a) Those that provide evidence of conditions that existed at the date of the financial
statements; and
(b) Those that provide evidence of conditions that arose after the date of the
SA 700 explains that the date of the auditor’s report informs the reader that the auditor
has considered the effect of events and transactions of which the auditor becomes
aware and that occurred up to that date.
Subsequent events refer to events occurring between the date of the financial
statements and the date of the auditor’s report, and facts that become known to the
auditor after the date of the auditor’s report.
8. During the audit, the auditor should maintain alertness for related party information while
reviewing records and documents. He may inspect the following records or documents that
may provide information about related party relationships and transactions, for example:
1. Entity income tax returns.
2. Information supplied by the entity to regulatory authorities.
3. Shareholder registers to identify the entity’s principal shareholders.
4. Statements of conflicts of interest from management and those charged with
governance.
5. Records of the entity’s investments and those of its pension plans.
6. Contracts and agreements with key management or those charged with governance.
7. Significant contracts and agreements not in the entity’s ordinary course of business.
8. Specific invoices and correspondence from the entity’s professional advisors.
9. Life insurance policies acquired by the entity.

10. Significant contracts re-negotiated by the entity during the period.
11. Internal auditors’ reports.
12. Documents associated with the entity’s filings with a securities regulator e.g,
prospectuses)
9. (a) As part of the risk assessment, the auditor shall determine whether any of the risks
identified are, in the auditor’s judgment, a significant risk. In exercising this judgment,
the auditor shall exclude the effects of identified controls related to the risk.
In exercising judgment as to which risks are significant risks, the auditor shall consider
at least the following:
(a) Whether the risk is a risk of fraud;
(b) Whether the risk is related to recent significant economic, accounting, or other
developments like changes in regulatory environment, etc., and, therefore,
requires specific attention;
(c) The complexity of transactions;
(d) Whether the risk involves significant transactions with related parties;
(e) The degree of subjectivity in the measurement of financial information related to
the risk, especially those measurements involving a wide range of measurement
uncertainty; and
(f) Whether the risk involves significant transactions that are outside the normal
course of business for the entity, or that otherwise appear to be unusual.
(b) Risks of Material Misstatement– Greater for Significant Non-Routine
Transactions
Risks of material misstatement may be greater for significant non-routine transactions
arising from matters such as the following:
 Greater management intervention to specify the accounting treatment.
 Greater manual intervention for data collection and processing.
 Complex calculations or accounting principles.
 The nature of non-routine transactions, which may make it difficult for the entity
to implement effective controls over the risks.
Risks of material misstatement– Greater for Significant Judgmental Matters
Risks of material misstatement may be greater for significant judgmental matters that
require the development of accounting estimates, arising from matters such as the
following:
 Accounting principles for accounting estimates or revenue recognition may be

subject to differing interpretation.
 Required judgment may be subjective or complex, or require assumptions about
the effects of future events, for example, judgment about fair value.
10. (a) Internal Financial Control as per Section 134(5)(e), “the policies and procedures
adopted by the company for ensuring the orderly and efficient conduct of its business,
including adherence to company’s policies, the safeguarding of its assets , the
prevention and detection of frauds and errors, the accuracy and completeness of the
accounting records, and the timely preparation of reliable financial information.”
On the other hand, Internal controls over financial reporting-is required where
auditors are required to express an opinion on the effectiveness of an entity’s internal
controls over financial reporting, such opinion is in addition to and distinct from the
opinion expressed by the auditor on the financial statements.
(b) Auditor’s reporting on internal financial controls is a requirement specified in the Act
and, therefore, will apply only in case of reporting on financial statements prepared
under the Act and reported under Section 143.
Accordingly, reporting on internal financial controls will not be applicable with respect
to interim financial statements, such as quarterly or half-yearly financial statements,
unless such reporting is required under any other law or regulation.
Objectives of an auditor in an audit of internal financial controls over financial
reporting: The auditor’s objective in an audit of internal financial controls over
financial reporting is, “ to express an opinion on the effectiveness of the
company’s internal financial controls over financial reporting.” It is carried out
along with an audit of the financial statements.
Reporting under Section 143(3)(i) is dependent on the underlying criteria for internal
financial controls over financial reporting adopted by the management. However, any
system of internal controls provides only a reasonable assurance on achievement of
the objectives for which it has been established. Also, the auditor shall use the
concept of materiality in determining the extent of testing such controls.
Rule 8(5)(viii) of the Companies (Accounts) Rules, 2014 requires the board report
of all companies to state the details in respect of adequacy of internal financial
controls with reference to the financial statements.
The inclusion of the matters relating to internal financial controls in the directors
responsibility statement is in addition to the requirement of the directors stating that
they have taken proper and sufficient care for the maintenance of adequate
accounting records in accordance with the provisions of the 2013 Act for safeguarding
the assets of the company and for preventing and detecting fraud and other
irregularities.
task requiring great tact and intelligence because generally management personnel in
higher management cadre are associated with this type of fraud and this is perpetrated in
methodical way. This type of fraud is generally committed:
(c) to withhold declaration of dividend even when there is adequate profit (this is often
done to manipulate the value of shares in stock market to make it possible for selected
persons to acquire shares at a lower cost); and
(d) for receiving higher remuneration where managerial remuneration is payable by
reference to profits.
12. Misappropriation of assets involves the theft of an entity’s assets and is often perpetrated
by employees in relatively small and immaterial amounts. However, it can also involve
management who are usually more able to disguise or conceal misappropriations in ways
that are difficult to detect. Misappropriation of assets can be accomplished in a variety of
ways including:
➢ Embezzling receipts (for example, misappropriating collections on accounts
receivable or diverting receipts in respect of written-off accounts to personal bank
accounts).
➢ Stealing physical assets or intellectual property (for example, stealing inventory for
personal use or for sale, stealing scrap for resale, colluding with a competitor by
disclosing technological data in return for payment).
➢ Causing an entity to pay for goods and services not received (for example, payments
to fictitious vendors, kickbacks paid by vendors to the entity’s purchasing agents in
return for inflating prices, payments to fictitious employees).
➢ Using an entity’s assets for personal use (for example, using the entity’s assets as
collateral for a personal loan or a loan to a related party).
Misappropriation of assets is often accompanied by false or misleading records or
documents in order to conceal the fact that the assets are missing or have been pledged
without proper authorization.
13. The auditor should consider relevance of IT in an audit of financial statements for the
following reasons:
(a) Since auditors rely on the reports and information generated by IT systems, there
could be risk in the IT systems that could have an impact on audit.
(b) Standards on auditing SA 315 and SA 330 require auditors to understand, assess
and respond to risks that arise from the use of IT systems.
(c) By relying on automated controls and using data analytics in an audit, it is possible
to increase the effectiveness and efficiency of the audit process.
14. When risks in IT systems are not mitigated the audit impact could be as follows:
(i) First, auditors may not be able to rely on the data obtained from systems where such
risks exist. This means, all forms of data, information or reports that they obtain from
systems for the purpose of audit has to be thoroughly tested and corroborated for
completeness and accuracy.
(ii) Second, auditors will not be able to rely on automated controls, calculations,
accounting procedures that are built into the applications. Additional audit work may
be required in this case.
(iii) Third, due to the regulatory requirement of auditors to report on internal financial
controls of a company, the audit report also may have to be modified in some
instances.
15. Audit sampling enables the auditor to obtain and evaluate audit evidence about some
characteristic of the items selected in order to form or assist in forming a conclusion
concerning the population from which the sample is drawn. Audit sampling can be applied
using either non-statistical or statistical sampling approaches.
When designing an audit sample, the auditor’s consideration includes the specific purpose
to be achieved and the combination of audit procedures that is likely to best achieve that
purpose. Consideration of the nature of the audit evidence sought and possible deviation
or misstatement conditions or other characteristics relating to that audit evidence will assist
the auditor in defining what constitutes a deviation or misstatement and what population to
use for sampling. In fulfilling the requirement of relevant portion (paragraph 8) of SA 500,
when performing audit sampling, the auditor performs audit procedures to obtain evidence
that the population from which the audit sample is drawn is complete.
The auditor’s consideration of the purpose of the audit procedure includes a clear
understanding of what constitutes a deviation or misstatement so that all, and only, those
conditions that are relevant to the purpose of the audit procedure are included in the
evaluation of deviations or projection of misstatements. For example, in a test of details
relating to the existence of accounts receivable, such as confirmation, payments made by
the customer before the confirmation date but received shortly after that date by the client,
are not considered a misstatement. Also, a misposting between customer accounts does
not affect the total accounts receivable balance. Therefore, it may not be appropriate to
consider this a misstatement in evaluating the sample results of this particular audit
procedure, even though it may have an important effect on other areas of the audit, such
as the assessment of the risk of fraud or the adequacy of the allowance for doubtful
accounts.
In considering the characteristics of a population, for tests of controls, the auditor makes
an assessment of the expected rate of deviation based on the auditor’s understanding of
the relevant controls or on the examination of a small number of items from the population.
This assessment is made in order to design an audit sample and to determine sample size.
For example, if the expected rate of deviation is unacceptably high, the auditor will normally
decide not to perform tests of controls. Similarly, for tests of details, the auditor makes an
assessment of the expected misstatement in the population. If the expected misstatement
is high, 100% examination or use of a large sample size may be appropriate when
performing tests of details.
In considering the characteristics of the population from which the sample will be drawn,
the auditor may determine that stratification or value-weighted selection is appropriate.
The decision whether to use a statistical or non-statistical sampling approach is a matter
for the auditor’s judgment; however, sample size is not a valid criterion to distinguish
between statistical and non-statistical approaches.
16. In considering the characteristics of the population from which the sample will be drawn,
the auditor may determine that stratification or value-weighted selection technique is
appropriate. SA 530 provides guidance to the auditor on the use of stratification and value-
weighted sampling techniques.
Stratification: Audit efficiency may be improved if the auditor stratifies a population by
dividing it into discrete sub-populations which have an identifying characteristic.
The objective of stratification is to reduce the variability of items within each stratum and
therefore allow sample size to be reduced without increasing sampling risk.
When performing tests of details, the population is often stratified by monetary value. This
allows greater audit effort to be directed to the larger value items, as these items may
contain the greatest potential misstatement in terms of overstatement.
Similarly, a population may be stratified according to a particular characteristic that
indicates a higher risk of misstatement, for example, when testing the allowance for
doubtful accounts in the valuation of accounts receivable, balances may be stratified by
age.
Dividing a population into discrete sub population which have identifying characteristics is
called as Stratification. Each Sub population is called as Stratum and units under those
sub population are referred to as Strata.
The results of audit procedures applied to a sample of items within a stratum can only be
projected to the items that make up that stratum. To draw a conclusion on the entire
population, the auditor will need to consider the risk of material misstatement in relation to
whatever other strata make up the entire population.
The results of samples from the units drawn under each sub population are projected to
that respective stratum. In order to draw an opinion on the overall population, the auditor
needs to combine the results of all the stratum to check for possible deviation or risk of
material misstatement.
Projected misstatements of each stratum will be combined together to consider the
possible effect of misstatement in the account balances and class of transact ions.
Example
20% of the items in a population may make up 90% of the value of an account balance.
The auditor may decide to examine a sample of these items. The auditor evaluates the
results of this sample and reaches a conclusion on the 90% of value separately from th e
remaining 10% (on which a further sample or other means of gathering audit evidence will
be used, or which may be considered immaterial).
Value-Weighted Selection: When performing tests of details it may be efficient to identify
the sampling unit as the individual monetary units that make up the population. Having
selected specific monetary units from within the population, for example, the accounts
receivable balance, the auditor may then examine the particular items, for example,
individual balances, that contain those monetary units.
One benefit of this approach to defining the sampling unit is that audit effort is directed to
the larger value items because they have a greater chance of selection, and can result in
smaller sample sizes.
This approach may be used in conjunction with the systematic method of sample selection
and is most efficient when selecting items using random selection.
In value weighted selection, the sample size, its selection and evaluation will result
in a conclusion in monetary amounts.
17. Analytical procedures include the consideration of comparisons of the entity’s financial
information with, for example:
• Comparable information for prior periods.
• Anticipated results of the entity, such as budgets or forecasts, or expectations of the
auditor, such as an estimation of depreciation.
• Similar industry information, such as a comparison of the entity’s ratio of sales to
accounts receivable with industry averages or with other entities of comparable size
in the same industry.
Analytical procedures also include consideration of relationships, for example:
• Among elements of financial information that would be expected to conform to a
predictable pattern based on the entity’s experience, such as gross margin
percentages.
• Between financial information and relevant non-financial information, such as payroll
costs to number of employees.
18. Analysis by computation of ratios includes the study of relationships between financial
statement amounts. Commonly used ratios include:
• Elements of income or loss as a percentage of sales
• Gross profit turnover
• Accounts receivable turnover
• Inventory turnover
• Profitability, leverage, and liquidity
19. (a) Recovery of Bad Debts written off: Recovery of bad debts written off is verified with
reference to relevant correspondence and proper authorisation.
(i) Ascertain the total amount lying as bad debts and verify the relevant
correspondence with the trade receivables whose accounts were written off as
bad debt.
(ii) Ensure that all recoveries of bad debts have been properly recorded in the books
of account.
(iii) Examine notification from the Court or from bankruptcy trustee. Letters from
collecting agencies or from account receivables should also be seen.
(iv) Check Credit Manager’s file for the amount received and see that the said
amount has been deposited into the bank promptly.
(v) Vouch acknowledgement receipts issued to account receivables or trustees.
(vi) Review the internal control system regarding writing off and recovery of bad
debts
(b) Receipt of Insurance Claims: Insurance claims may be in respect of fixed assets or
current assets. While vouching the receipts of insurance claims-
(i) The auditor should examine a copy of the insurance claim lodged with the
insurance company correspondence with the insurance company and with the
insurance agent should also be seen. Counterfoils of the receipts issued to the
insurance company should also be seen.
(ii) The auditor should also determine the adjustment of the amount received in
excess or short of the value of the actual loss as per the insurance policy.
(iii) The copy of certificate/report containing full particulars of the amount of loss
should also be verified.
(iv) The accounting treatment of the amount received should be seen particularly to
ensure that revenue is credited with the appropriate amount and that in respect
of claim against asset, the Statement of Profit and Loss is debited with the short
fall of the claim admitted against book value, if the claim was lodged in the
previous year but no entries were passed, entries in the Statement of Profit and
Loss should be appropriately described.
(c) Payment of Taxes:
(i) Obtain the computation of taxes prepared by the auditee and verify whether it is
as per the Income Tax Act/GST Act/ Rules/ Notifications/ Circulars etc.
(ii) Examine relevant records and documents pertaining to payment of advance
income tax and self assessment tax.
(iii) Payment on account of income-tax and other taxes like GST consequent upon
a regular assessment should be verified by reference to the copy of the
assessment order, notice of demand and the receipted challan acknowledging
the amount paid.
(iv) The penal interest charged for non-payment should be debited to the interest
account.
(v) Nowadays, electronic payment of taxes is also in trend. Such electronic payment
of taxes by way of internet banking facility or credit or debit cards shall also be
verified.
(vi) The assessee can make electronic payment of taxes also from the account of
any other person. Therefore, it should be verified that the challan for making
such payment is clearly indicating the PAN No./TAN No./TIN No./GSTIN etc. of
the assessee on whose behalf the payment is made.
(d) Sale Proceeds of Scrap Material:
(i) Review the internal control on scrap materials, as regards its generation, storage
and disposal and see whether it was properly followed at every stage.
(ii) Ascertain whether the organisation is maintaining reasonable records for the
sale and disposal of scrap materials.
(iii) Review the production and cost records for determination of the extent of scrap
materials that may arise in a given period.
(iv) Compare the income from the sale of scrap materials with the corresponding
figures of the preceding three years.
(v) Check the rates at which different types of scrap materials have been sold and
compare the same with the rates that prevailed in the preceding year.
(vi) See that scrap materials sold have been billed and check the calculations on the
invoices.
(vii) Ensure that there exists a proper procedure to identify the scrap material and
good quality material is not mixed up with it and sold as scrap
(viii) Make an overall assessment of the value of the realisation from the sale of scrap
materials as to its reasonableness.

20. Verification of Profit & Loss Arising on sale of Plots by real estate dealer: The land
holding in the case of real estate dealer will be a current asset and not a fixed asset. The
same should, therefore, be valued at cost or market value whichever is less. The amount of
profit or loss arising on sale of plots of land by such a dealer should be verified as follows:
(i) Each property account should be examined from the beginning of the developmen t
with special reference to the nature of charges so as to find out that only the
appropriate cost and charges have been debited to the account and the total cost of
the property has been set off against the price realised for it.
(ii) This basis of distribution of the common charges between different plots of land
developed during the period, and basis for allocation of cost to individual properties
comprised in a particular piece of land should be scrutinised.
(iii) If land price lists are available, these should be compared with actual selling prices
obtained. And it should be verified that contracts entered into in respect of sale have
been duly sanctioned by appropriate authorities.
(iv) Where part of the sale price is intended to reimburse taxes or expenses, suitable
provisions should be maintained for the purpose.
(v) The prices obtained for various plots of land sold should be checked with the plan
map of the entire tract and any discrepancy or unreasonable price variations should
be inquired into. The sale price of different plots of land should be verified on a
reference to certified copies of sale deeds executed.
(vi) Out of the sale proceeds, provision should be made for the expenditure incurred on
improvement of land, which so far has been accounted for.
21. Under provisions of section 141(3) of Companies Act, 2013, a person or a firm who,
whether directly or indirectly has business relationship with the Company, or its Subsidiary,
or its Holding or Associate Company or Subsidiary of such holding company or associat e
company, of such nature as may be prescribed is not eligible to be appointed as auditor of
the company.
The term “business relationship” shall be construed as any transaction entered into
for a commercial purpose, except –
(i) commercial transactions which are in the nature of professional services permitted to
be rendered by an auditor or audit firm under the Act and the Chartered Accountants
Act, 1949 and the rules or the regulations made under those Acts;
(ii) commercial transactions which are in the ordinary course of business of the company
at arm’s length price - like sale of products or services to the auditor, as customer, in
the ordinary course of business, by companies engaged in the business of
telecommunications, airlines, hospitals, hotels and such other similar businesses.
22. The right of the auditor to obtain from the officers of the company such information and
explanations as he may think necessary for the performance of his duties as auditor is a
wide and important power. In the absence of such power, the auditor would not be able to
obtain details of amount collected by the directors, etc. from any other company, firm or
person as well as of any benefits in kind derived by the directors from the company, which
may not be known from an examination of the books. It is for the auditor to decide the
matters in respect of which information and explanations are required by him.
Therefore, such a right/power is quite significant for discharge of duty of an auditor of a
company to report to the members of the company on accounts examined by him.
23. Reporting for Fixed Assets- Clause (i) of Para 3 of CARO ,2016, requires the auditor to
include a statement in the auditor’s report on the following matters, namely -
(i) whether the company is maintaining proper records showing full particulars, including
quantitative details and situation of fixed assets;
(ii) whether these fixed assets have been physically verified by the management at
reasonable intervals; whether any material discrepancies were noticed on such
verification and if so, whether the same have been properly dealt with in the books of
account;
(iii) whether the title deeds of immovable properties are held in the name of the company.
If not, provide the details thereof;
24. Determining Key Audit Matters: As per SA 701, “Communicating Key Audit Matters in
the Independent Auditor’s Report”, the auditor shall determine, from the matters
communicated with those charged with governance, those matters that required significant
auditor attention in performing the audit. In making this determination, the auditor shall
take into account the following:
(i) Areas of higher assessed risk of material misstatement, or significant risks identified
in accordance with SA 315, Identifying and Assessing the Risks of Material
Misstatement through Understanding the Entity and Its Environment.
(ii) Significant auditor judgments relating to areas in the financial statements that
involved significant management judgment, including accounting estimates that have
been identified as having high estimation uncertainty.
(iii)
(iv) The effect on the audit of significant events or transactions that occurred during the
period.
The auditor shall determine which of the matters determined in accordance with above
were of most significance in the audit of the financial statements of the current period and
therefore are the key audit matters.
25. The auditor shall disclaim an opinion when the auditor is unable to obtain su fficient
appropriate audit evidence on which to base the opinion, and the auditor concludes that
the possible effects on the financial statements of undetected misstatements, if any, could
be both material and pervasive.
The auditor shall disclaim an opinion when, in extremely rare circumstances involving
multiple uncertainties, the auditor concludes that, notwithstanding having obtained
sufficient appropriate audit evidence regarding each of the individual uncertainties, it is
not possible to form an opinion on the financial statements due to the potential i nteraction
of the uncertainties and their possible cumulative effect on the financial statements.
In the present case Delightful Ltd, the statutory auditor of the company is unable to extract
correct data and reports from the SAP system for conduct of audit. Also, such data and
reports are not available manually. Moreover, the auditor believes that the possible effects
on the financial statements of undetected misstatements could be both material and
pervasive.
As such, the statutory auditor of Delightful Ltd. should give a disclaimer of opinion.
26. Advantages of such a discussion :-
 Specific emphasis should be provided to the susceptibility of the bank’s financial
statements to material misstatement due to fraud, that enables the engagement team
to consider an appropriate response to fraud risks, including those related to
engagement risk, pervasive risks, and specific risks.
 It further enables the audit engagement partner to delegate the work to the
experienced engagement team members, and to determine the procedures to be
followed when fraud is identified.
 Further, audit engagement partner may review the need to involve specialists to
address the issues relating to fraud.
assessing the overall reasonableness of the amount of interest expense by analysing ratios
of interest paid on different types of deposits and borrowings to the average quantum of
the respective liabilities during the year. In modern day banking, the entries for interest
expenses are automatically generated through a batch process in the CBS system.
The auditor should obtain from the bank an analysis of various types of deposits
outstanding at the end of each quarter. From such information, the auditor may work out a
weighted average interest rate. The auditor may then compare this rate with the actual
average rate of interest paid on the relevant deposits as per the annual accounts and
enquire into the difference, if material.
The auditor should also compare the average rate of interest paid on the relevant deposits
with the corresponding figures for the previous years and analyse any material differences.
The auditor should obtain general ledger break-up for the interest expense incurred on
deposits (savings and term deposits) and borrowing each month/quarter. The auditor
should analyse month on month (or quarter on quarter) cost analysis and document the
reasons for the variances as per the benchmark stated. He should examine whether the
interest expense considered in the cost analysis agrees with the general ledger. The
auditor should understand the process of computation of the average balance and
re-compute the same on sample basis.
The auditor should, on a test check basis, verify the calculation of interest and ensure that:
(a) Interest has been provided on all deposits upto the date of the balance sheet;
(b) Interest rates are in accordance with the bank’s internal regulations, the RBI
directives and agreements with the respective deposit holder;
(c) Interest on savings accounts are in accordance with the rules framed by the bank/RBI
in this behalf.
(d) Interest on inter–branch balances has been provided at the rates prescribed by the
head office/RBI.
The auditor should ascertain whether there are any changes in interest rate on saving
accounts and term deposits during the period. The auditor should obtain the interest rate
card for various types of deposits and analyse the interest cost for the period accordingly.
The auditor should examine the completeness that interest has been accrued on the entire
borrowing portfolio and the same should agree with the general ledgers. The auditor should
re-compute the interest accrual i.e., by referring to the parameters like frequency of
payment of interest amount, rate of interest, period elapsed till the date of balance sheet,
etc. from the term sheet, deal ticket, agreements, etc. and ensure that the recomputed
amount is tallying with the amount as per books of accounts without any significant
difference.
28. (a) The external control of municipal expenditure is exercised by the state governments
through the appointment of auditors to examine municipal accounts. However, the
municipal corporations of Delhi, Mumbai and a few others have powers to appoint
their own auditors for regular external audit.
The important objectives of audit are:

(a) reporting on the fairness of the content and presentation of financial statements;
(b) reporting upon the strengths and weaknesses of systems of financial control;
(c) reporting on the adherence to legal and/or administrative requirements;
(d) reporting upon whether value is being fully received on money spent; and
(e) detection and prevention of error, fraud and misuse of resources.
(b) While planning the audit, the auditor may concentrate on the following:
(i) Knowledge of the NGO’s work, its mission and vision, areas of operations and
environment in which it operate.
(ii) Updating knowledge of relevant statutes especially with regard to recent
amendments, circulars, judicial decisions viz. Foreign Contribution (Regulation)
Act 1976, Societies Registration Act, 1860, Income Tax Act 1961 etc. and the
Rules related to the statutes.
(iii) Reviewing the legal form of the Organisation and its Memorandum of
Association, Articles of Association, Rules and Regulations.
(iv) Reviewing the NGO’s Organisation chart, then Financial and Administrative
Manuals, Project and Programme Guidelines, Funding Agencies Requirements
and formats, budgetary policies if any.
(v) Examination of minutes of the Board/Managing Committee/Governing Body/
Management and Committees thereof to ascertain the impact of any decisions
on the financial records.
(vi) Study the accounting system, procedures, internal controls and internal checks
existing for the NGO and verify their applicability.
(vii) Setting of materiality levels for audit purposes.
(viii) The nature and timing of reports or other communications.
(ix) The involvement of experts and their reports.
(x) Review the previous year’s Audit Report.

(Legislative Amendments / Notifications / Circulars / Rules / Guidelines issued by
Regulating Authority)
Chapter 5- Fraud and Responsibilities of the Auditor in this Regard
Chapter 10- Company Audit
CHAPTER 5
FRAUD AND RESPONSIBILITIES OF THE
AUDITOR IN THIS REGARD
LEARNING OUTCOMES
❑ Understand the types of errors and frauds.
❑ Definition of fraud as given under the Standards on
Auditing and its meaning.
❑ Understand reasons behind management/ employees
committing fraud/ error.
❑ Analyse the duty of an auditor regarding detection of fraud and
error.
❑ Determine fraud risk factors and circumstances relating to
possibility of fraud.
❑ Understand responsibility of an auditor in case of withdrawal from
the engagement if encounter any circumstances that bring into
question his ability to continue due to fraud.

42 INTERMEDIATE (NEW) EXAMINATION : MAY, 2021
1. MEANING OF FRAUD
The Standard on Auditing (SA) 240 “The Auditor’s Responsibilities Relating to
Fraud in an Audit of Financial Statements” defines the term ‘fraud’ as-
“an intentional act by one or more individuals among management, those
charged with governance, employees, or third parties, involving the use of
deception to obtain an unjust or illegal advantage”.
Although fraud is a broad legal concept, for the purposes of the SAs, the
auditor is concerned with fraud that causes a material misstatement in the
 misstatements resulting from fraudulent financial reporting and

 misstatements resulting from misappropriation of assets.

Although the auditor may suspect or, in rare cases, identify the occurrence of
fraud, the auditor does not make legal determinations of whether fraud has
actually occurred.
2. CHARACTERISTICS OF FRAUD
2.1 Fraud is Intentional
Misstatements in the financial statements can arise from either fraud or error.
The distinguishing factor between fraud and error is whether the underlying
action that results in the misstatement of the financial statements is intentional
or unintentional.
2.2 Fraud is a broad legal concept

The auditor is concerned with fraud that causes a material misstatement in the
Fraud, whether fraudulent financial reporting or misappropriation of

assets, involves incentive or pressure to commit fraud, a perceived
opportunity to do so and some rationalization of the act. For example:
 Incentive or pressure to commit fraudulent financial reporting may exist
when management is under pressure, from sources outside or inside the
entity, to achieve an expected (and perhaps unrealistic) earnings target or
financial outcome.
 A perceived opportunity to commit fraud may exist when an individual
believes internal control can be overridden, for example, because the

individual is in a position of trust or has knowledge of specific deficiencies

in internal control.
 Individuals may be able to rationalize committing a fraudulent act. Some
individuals possess an attitude, character or set of ethical values that allow
them knowingly and intentionally to commit a dishonest act. However,
even otherwise, honest individuals can commit fraud in an environment
that imposes sufficient pressure on them.
2.2.1 Fraudulent financial reporting involves intentional
misstatements including omissions of amounts or disclosures in
financial statements to deceive financial statement users.
Fraudulent financial reporting may be accomplished by the following:
Manipulation, falsification (including forgery), or alteration of accounting

records or supporting documentation from which the financial statements are
prepared.
Manipulation of Accounts: Detection of manipulation of accounts with a view
to presenting a false state of affairs is a task requiring great tact and intelligence
because generally management personnel in higher management cadre are
associated with this type of fraud and this is perpetrated in methodical way. This
type of fraud is generally committed:
(c) to withhold declaration of dividend even when there is adequate profit
(this is often done to manipulate the value of shares in stock market to
make it possible for selected persons to acquire shares at a lower cost);
and

(d) for receiving higher remuneration where managerial remuneration is

payable by reference to profits.
There are numerous ways of committing this type of fraud. Some of the
methods are given below:
(i) inflating or suppressing purchases and expenses;
(ii) inflating or suppressing sales and other items of income,
(iii) inflating or deflating the value of closing inventory;
(iv) failing to adjust outstanding liabilities or prepaid expenses; and
(v) charging items of capital expenditure to revenue or by capitalising
revenue expenses.
Misrepresentation in or intentional omission from, the financial statements of
events, transactions or other significant information.
Intentional misapplication of accounting principles relating to amounts,
classification, manner of presentation, or disclosure.
Fraudulent financial reporting often involves management override of
controls that otherwise may appear to be operating effectively. Fraud can
be committed by management overriding controls using such techniques as:
 Recording fictitious journal entries, particularly close to the end of an

accounting period, to manipulate operating results or achieve other
objectives.
 Inappropriately adjusting assumptions and changing judgments used to
estimate account balances.

 Omitting, advancing or delaying recognition in the financial statements of

events and transactions that have occurred during the reporting period.
 Concealing, or not disclosing, facts that could affect the amounts
 Engaging in complex transactions that are structured to misrepresent the
financial position or financial performance of the entity.
 Altering records and terms related to significant and unusual transactions.
Why do Management/ Employees commit fraud? What induces
Management/ Employees to commit fraud? Following are certain instances
which will help to understand these questions:
 Financial obligations/ Pressure.

 Management’s unrealistic goals.
 Dissatisfied Employees or Lack of motivation among employees.
 Name game (eg. management using power of authority by asking
 Opportunity to commit fraud.

2.2.2 Misappropriation of Assets:

It involves the theft of an entity’s assets and is often perpetrated by employees
in relatively small and immaterial amounts.
However, it can also involve management
who are usually more able to disguise or
conceal misappropriations in ways that are
difficult to detect. Misappropriation of
assets can be accomplished in a variety of
ways including:
Fig.: Theft of Assets
 Embezzling receipts (for example,
misappropriating collections on accounts receivable or diverting receipts
in respect of written-off accounts to personal bank accounts).
 Stealing physical assets or intellectual property (for example, stealing
inventory for personal use or for sale, stealing scrap for resale, colluding
with a competitor by disclosing technological data in return for payment).
 Causing an entity to pay for goods and services not received (for example,
payments to fictitious vendors, kickbacks paid by vendors to the entity’s
purchasing agents in return for inflating prices, payments to fictitious
employees).
 Using an entity’s assets for personal use (for example, using the entity’s
assets as collateral for a personal loan or a loan to a related party).
Example
Vineet is a manager in Zed Ex Ltd. He is having authority to sign cheques up to
` 10,000. While performing the audit, Rajan, the auditor, noticed that there were
many cheques of ` 9,999 which had been signed by Vineet. Further Vineet had
split large payments (amounting to more than ` 10,000 each, into two or more
cheques less than ` 10,000 each so that he may authorize the payments). This
raised suspicion in the auditor’s mind.
The auditor found that the cheques of ` 9,999 were deposited in Vineet’s
personal account i.e. Vineet had misappropriated the amount.
Splitting the cheques into lower amounts involves manipulation of accounts.
The fraud was committed by an employee.

Misappropriation of assets is often

accompanied by false or misleading records
or documents in order to conceal the fact
that the assets are missing or have been
pledged without proper authorization. 1
2.2.2.1 Misappropriation of Goods
Fraud in the form of misappropriation of
goods is still more difficult to detect; for
this, management has to rely on various
measures. Apart from the various
requirements of record keeping about the Fig.: Theft of Goods*
physical quantities and their periodic
checks, there must be rules and procedures for allowing persons inside the area
where goods are kept. In addition there should be external security
arrangements to see that no goods are taken out without proper authority.
Goods can be anything in the premises; it may be machinery. It may even be
the daily necessities of the office like stationery. The goods may be removed by
subordinate employees or even by persons quite higher up in the management.
Auditors can detect this by undertaking a thorough and strenuous checking of
records followed by physical verification process. Also, by resorting to
intelligent ratio analysis, auditors may be able to form an idea whether such
fraud exists.
Therefore, it is clear from the above that the ‘fraud’ deals with intentional
misrepresentation but, ‘error’, on the other hand, refers to unintentional
mistakes in financial information.
Intentional errors are most difficult to detect and auditors generally devote
greater attention to this type because out of long and sometimes unfortunate
experience, auditors have developed a point of view that, if they direct their
procedures of discovering the more difficult intentional errors, they are
reasonably certain to locate the more simple and far more common
unintentional errors on the way.
*
Source of image: www.clipartster.com

2.2.2.2 Defalcation of Cash

Defalcation of cash has been found to perpetrate generally in the following
ways:
(a) By inflating cash payments:

Examples of inflation of payments:
(1) Making payments against fictitious vouchers.
(2)Making payments against vouchers, the amounts whereof have been
inflated.
(3) Manipulating totals of wage rolls either by including therein names
of dummy workers or by inflating them in any other manner.
(4) Casting a larger totals for petty cash expenditure and adjusting the
excess in the totals of the detailed columns so that cross totals show
agreement.
(b) By suppressing cash receipts:
Few techniques of how receipts are suppressed are:
(1) Teeming and Lading: Amount received from a customer being


them.
(c) By casting wrong totals in the cashbook.
3. DETECTION OF FRAUD AND ERROR–DUTY

OF AN AUDITOR
As per SA 240 “The Auditor’s
Responsibilities Relating to
Fraud in an Audit of Financial
Statements”, the primary
responsibility for the prevention
and detection of fraud rests
with both those charged with
governance of the entity and
management. It is important Fig.: Meticulous Analysis by Auditor for
that management, with the detection of Fraud/Error***
oversight of those charged with governance, place a strong emphasis on fraud
prevention, which may reduce opportunities for fraud to take place, and fraud
deterrence, which could persuade individuals not to commit fraud because of
the likelihood of detection and punishment. This involves a commitment to
creating a culture of honesty and ethical behavior which can be reinforced by
an active oversight by those charged with governance.
Broadly, the general principles laid down in the SA may be noted as under:
1. An auditor conducting an audit in accordance with SAs is responsible for

are free from material misstatement, whether caused by fraud or error. As

described in SA200, “Overall Objectives of the Independent Auditor and
the Conduct of an Audit in Accordance with Standards on Auditing,”
owing to the inherent limitations of an audit, there is an unavoidable risk that
the SAs.
2. The risk of not detecting a material misstatement resulting from fraud is
higher than the risk of not detecting one resulting from error. This is because,
fraud may involve sophisticated and carefully organized schemes designed
to conceal it, such as forgery, deliberate failure to record transactions, or
intentional misrepresentations being made to the auditor. Such attempts at
concealment may be even more difficult to detect when accompanied by
collusion. Collusion may cause the auditor to believe that audit evidence is
persuasive when it is, in fact, false. The auditor’s ability to detect a fraud
depends on factors such as the skillfulness of the perpetrator, the frequency
and extent of manipulation, the degree of collusion involved, the relative size
of individual amounts manipulated, and the seniority of those individuals
involved. While the auditor may be able to identify potential opportunities
for fraud to be perpetrated, it is difficult for the auditor to determine whether
misstatements in judgment areas such as accounting estimates are caused
by fraud or error.
3. Furthermore, the risk of the auditor not detecting a material misstatement
resulting from management fraud is greater than for employee fraud,
because management is frequently in a position to directly or indirectly
manipulate accounting records, present fraudulent financial information
or override control procedures designed to prevent similar frauds by
other employees.
4. When obtaining reasonable assurance, the auditor is responsible for
maintaining an attitude of professional skepticism throughout the audit,
considering the potential for management override of controls and
recognizing the fact that audit procedures that are effective for detecting
error may not be effective in detecting fraud. The requirements in this SA are
designed to assist the auditor in identifying and assessing the risks of
material misstatement due to fraud and in designing procedures to detect
such misstatement.

Case Study 1
While auditing XYZ Ltd., the auditor was told by Mr. Mahesh, the CEO of
the company, that he would be responsible for the fraud & errors, if any,
occurring in the books of accounts of the company.
Auditor’s Responsibilities for Detection of Fraud and Error: As per SA 240
“The Auditor’s Responsibilities relating to fraud in an audit of Financial
Statements”, an auditor conducting an audit in accordance with SAs is
responsible for obtaining reasonable assurance that the financial statements
taken as a whole are free from material misstatement, whether caused by fraud
or error.
Owing to the inherent limitations of an audit, there is an unavoidable risk that
the SAs.
When obtaining reasonable assurance, the auditor is responsible for maintaining
an attitude of professional skepticism throughout the audit, considering the
potential for management override of controls and recognizing the fact that audit
procedures that are effective for detecting error may not be effective in detecting
fraud.
The auditor also has the responsibility to communicate the misstatement to the
appropriate level of management on a timely basis and consider the need to
report to it to those charged with governance. He may also obtain legal advice
before reporting on the financial information or before withdrawing from the
engagement. The auditor should satisfy himself that the effect of fraud is
properly reflected in the financial information or the error is corrected in case
the modified procedures performed by the auditor confirms the existence of
the fraud.
The auditor should also consider the implications of the frauds and errors, and
frame his report appropriately. In case of a fraud, the same should be disclosed
in the financial statement. If adequate disclosure is not made, there should be
a suitable disclosure in his audit report.

Case Study 2
After the completion of statutory audit of ABC Ltd., a fraud was detected
at the office of the auditee. The management of the company alleged that
there is a failure on the part of the auditor to detect fraud and that auditor
would be responsible for not detecting fraud in the company.
Detection of Fraud after Completion of Statutory Audit: As per SA 240, the
primary responsibility for the prevention and detection of fraud rests with both
those charged with governance of the entity and management. It is important
that management, with the oversight of those charged with governance, place
a strong emphasis on fraud prevention, which may reduce opportunities for
fraud to take place, and fraud deterrence, which could persuade individuals not
to commit fraud because of the likelihood of detection and punishment. Such
a system reduces but does not eliminate the possibility of fraud and error.
are free from material misstatement, whether caused by fraud or error. Owing to
the inherent limitations of an audit, there is an unavoidable risk that some
material misstatements of the financial statements will not be detected, even
though the audit is properly planned and performed in accordance with the SAs.
The risk of not detecting a material misstatement resulting from fraud is higher
than the risk of not detecting one resulting from error. This is because fraud may
involve sophisticated and carefully organized schemes designed to conceal it,
such as forgery, deliberate failure to record transactions, or intentional
misrepresentations being made to the auditor. Such attempts at concealment
may be even more difficult to detect when accompanied by collusion.
The subsequent discovery of material misstatement of the financial information
resulting from fraud or error existing during the period covered by the auditor’s
report does not, in itself, indicate that whether the auditor has adhered to the
basic principles governing an audit. The question of whether the auditor has
adhered to the basic principles governing an audit (such as performance of the
audit work with requisite skills and competence, documentation of important
matters, details of the audit plan and reliance placed on internal controls, nature
and extent of compliance and substantive tests carried out, etc.) is determined
by the adequacy of the procedures undertaken in the circumstances and the
suitability of the auditor’s report based on the results of these procedures.

The liability of the auditor for failure to detect fraud exists only when such failure is
clearly due to not exercising reasonable care and skill. Thus, in the instant case, after
the completion of the statutory audit, if a fraud has been detected, the same by itself
can not mean that the auditor did not perform his duty properly. If the auditor can
prove with the help of his papers (documentation) that he has followed adequate
procedures necessary for the proper conduct of an audit, he cannot be held
responsible for the same. If however, the same cannot be proved, he would be held
responsible.
4. FRAUD RISK FACTORS AND POSSIBILITY

OF FRAUD
SA 240, further, explains by way of examples, certain risk factors and
circumstances relating to possibility of fraud as may be considered by the
auditor which are dealt in the following paragraphs.
4.1 Fraud Risk Factors

fraud.
Examples of Fraud Risk Factors: The fraud risk factors identified here are
examples of such factors that may be faced by auditors in a broad range of
situations. Separately presented are examples relating to the two types of fraud
relevant to the auditor’s consideration, i.e.,
(A) fraudulent financial reporting, and
(B) misappropriation of assets.
For each of these types of fraud, the risk factors are further classified based on
the three conditions generally present when material misstatements due to
fraud occur:
(a) incentives/pressures,
(b) opportunities, and

(c) attitudes/rationalizations.
Although the risk factors cover a broad range of situations, they are only
examples and, accordingly, the auditor may identify additional or different risk
factors. Not all of these examples are relevant in all circumstances, and some
may be of greater or lesser significance in entities of different size or with
different ownership characteristics or circumstances. Also, the order of the
examples of risk factors provided is not intended to reflect their relative
importance or frequency of occurrence.
(A) Risk Factors Relating to Misstatements Arising from Fraudulent
Financial Reporting: The following are examples of risk factors relating to
misstatements arising from fraudulent financial reporting-
Incentives/Pressures: Financial stability or profitability is threatened by
economic, industry, or entity operating conditions, such as (or as indicated by):
1. High degree of competition or market saturation, accompanied by
declining margins.
2. High vulnerability to rapid changes, such as changes in technology,
product obsolescence, or interest rates.
3. Significant declines in customer demand and increasing business failures
in either the industry or overall economy.
4. Operating losses making the threat of bankruptcy, foreclosure, or hostile
takeover imminent.

5. Recurring negative cash flows from operations or an inability to generate

cash flows from operations while reporting earnings and earnings growth.
6. New accounting, statutory, or regulatory requirements.
Opportunities: The nature of the industry or the entity’s operations provides
opportunities to engage in fraudulent financial reporting that can arise from
the following:
1. Significant related-party transactions not in the ordinary course of
business or with related entities not audited or audited by another firm.
2. A strong financial presence or ability to dominate a certain industry sector
that allows the entity to dictate terms or conditions to suppliers or
customers that may result in inappropriate or non-arm’s-length
transactions.
3. Assets, liabilities, revenues, or expenses based on significant estimates
that involve subjective judgments or uncertainties that are difficult to
corroborate.
4. Significant, unusual, or highly complex transactions, especially those close
to period end that pose difficult “substance over form” questions.
5. Significant bank accounts or subsidiary or branch operations in tax-haven
jurisdictions for which there appears to be no clear business justification.
Attitudes/Rationalizations: Communication, implementation, support, or
enforcement of the entity’s values or ethical standards by management, or the
communication of inappropriate values or ethical standards, that are not
effective.
1. Known history of violations of securities laws or other laws and
regulations.
2. Excessive interest by management in maintaining or increasing the
entity’s inventory price or earnings trend.
3. Management failing to remedy known significant deficiencies in internal
4. An interest by management in employing inappropriate means to
minimize reported earnings for tax-motivated reasons.

5. The owner-manager makes no distinction between personal and business

transactions.
6. The relationship between management and the current or predecessor
auditor is strained, as exhibited by the following:
• Frequent disputes with the current or predecessor auditor on
accounting, auditing, or reporting matters.
• Unreasonable demands on the auditor, such as unrealistic time
constraints regarding the completion of the audit or the issuance of
• Restrictions on the auditor that inappropriately limit access to
people or information or the ability to communicate effectively with
those charged with governance.
• Domineering management behavior in dealing with the auditor,
especially involving attempts to influence the scope of the auditor’s
work or the selection or continuance of personnel assigned to or
consulted on the audit engagement.
(B) Risk Factors Arising from Misstatements Arising from
Misappropriation of Assets: Risk factors that relate to misstatements arising
from misappropriation of assets are also classified according to the three
conditions generally present when fraud exists: incentives/ pressures,
opportunities, and attitudes/ rationalization. Some of the risk factors related to
misstatements arising from fraudulent financial reporting also may be present
when misstatements arising from misappropriation of assets occur.
The following are examples of risk factors related to misstatements arising
from misappropriation of assets-
Incentives/Pressures: Personal financial obligations may create pressure on
management or employees with access to cash or other assets susceptible to
theft to misappropriate those assets.
Adverse relationships between the entity and employees with access to cash or
other assets susceptible to theft may motivate those employees to
misappropriate those assets. For example, adverse relationships may be created
by the following:
1. Known or anticipated future employee layoffs.

2. Recent or anticipated changes to employee compensation or benefit

plans.
3. Promotions, compensation, or other rewards inconsistent with
expectations.
Opportunities: Certain characteristics or circumstances may increase the
susceptibility of assets to misappropriation. For example, opportunities to
misappropriate assets increase when there are the following:
1. Large amounts of cash on hand or processed.
2. Inventory items that are small in size, of high value, or in high demand.
3. Easily convertible assets, such as bearer bonds, diamonds, or computer
chips.
4. Fixed assets which are small in size, marketable, or lacking observable
identification of ownership.
Inadequate internal control over assets may increase the susceptibility of
misappropriation of those assets. For example, misappropriation of assets
may occur because there is the following:
 Inadequate segregation of duties or independent checks.
 Inadequate oversight of senior management expenditures, such as travel
and other reimbursements.
 Inadequate record keeping with respect to assets.
 Inadequate system of authorization and approval of transactions (for
example, in purchasing).
 Inadequate physical safeguards over cash, investments, inventory, or fixed
assets.
 Lack of complete and timely reconciliations of assets.
 Lack of timely and appropriate documentation of transactions, for
 Lack of mandatory vacations for employees performing key control
functions.

 Inadequate management understanding of information technology,

misappropriation.
 Inadequate access controls over automated records, including controls
over and review of computer systems event logs.
Attitudes/Rationalizations: Disregard for the need for monitoring or reducing
risks related to misappropriations of assets.
 Disregard for internal control over misappropriation of assets by
overriding existing controls or by failing to take appropriate remedial
action on known deficiencies in internal control.
 Behavior indicating displeasure or dissatisfaction with the entity or its
treatment of the employee.
 Changes in behavior or lifestyle that may indicate assets have been
misappropriated
 Tolerance of petty theft.
4.2 Circumstances Relating to Possibility of Fraud

Examples of circumstances that indicate the possibility of fraud: The
following are examples of circumstances that may indicate the possibility that
the financial statements may contain a material misstatement resulting from
fraud-

(A) Discrepancies in the accounting records, including:

• Transactions that are not recorded in a complete or timely manner
or are improperly recorded as to amount, accounting period,
classification, or entity policy.
• Last-minute adjustments that significantly affect financial results.
• Evidence of employees’ access to systems and records inconsistent
with that necessary to perform their authorized duties.
(B) Conflicting or missing evidence, including:
• Missing documents.
• Documents that appear to have been altered.
• Significant unexplained items on reconciliations.
• Unusual discrepancies between the entity’s records and confirmation
replies.
• Large numbers of credit entries and other adjustments made to
accounts receivable records.
• Missing or non-existent cancelled cheques in circumstances where
cancelled cheques are ordinarily returned to the entity with the bank
statement.
• Missing inventory or physical assets of significant magnitude.
• Unavailable or missing electronic evidence, inconsistent with the
entity’s record retention practices or policies.
Example
Raj is the auditor of XYZ Ltd. Raj is analysing the financial statements of the
company by studying significant ratios. Some of the ratios that he studied were
the gross profit ratio and net profit ratio. The gross profit ratio for the current
year 2019-20 is 19% and for the previous year 2018-19 was 25%. Similarly, net
profit ratio for the current year 2019-20 is 7%, where as in previous year 2018-
19 it was 11%.
There is a large variation in the gross profit ratio and net profit ratio over the

two years. Hence, the auditor has reason to believe that there may be
something unusual. He will consider the results of such analytical procedures
while drawing up his audit plan and allot more time to studying purchases.
Example
Analytical procedures exhibiting unusual ratios and trend e.g. unusually large
transactions reported in the last month of the reporting period.
(C) Problematic or unusual relationships between the auditor and

management, including:
• Denial of access to records, facilities, certain employees, customers,
vendors, or others from whom audit evidence might be sought.
• Undue time pressures imposed by management to resolve complex
or contentious issues.
• Unusual delays by the entity in providing requested information.
• Unwillingness to facilitate auditor access to key electronic files for
testing through the use of computer-assisted audit techniques.
• Denial of access to key IT operations staff and facilities, including
security, operations, and systems development personnel.
• An unwillingness to add or revise disclosures in the financial
statements to make them more complete and understandable.
• An un willingness to address identified deficiencies in internal
(D) Other
• Unwillingness by management to permit the auditor to meet
privately with those charged with governance.
• Accounting policies that appear to be at variance with industry
norms.
• Frequent changes in accounting estimates that do not appear to
result from changed circumstances.
• Tolerance of violations of the entity’s Code of Conduct.

5. FRAUD REPORTING
Reporting to the Central Government: As per sub-section (12) of section 143
of the Companies Act, 2013, if an auditor of a company in the course of the
performance of his duties as auditor, has reason to believe that an offence of
fraud involving such amount or amounts as may be prescribed, is being or has
been committed in the company by its officers or employees, the auditor shall
report the matter to the Central Government within such time and in such
manner as may be prescribed.
In this regard, Rule 13 of the Companies (Audit and Auditors) Rules, 2014 has
been prescribed. Sub-rule (1) of the said rule states that if an auditor of a
company, in the course of the performance of his duties as statutory auditor,
has reason to believe that an offence of fraud, which involves or is expected to
involve individually an amount of ` 1 crore or above, is being or has been
committed against the company by its officers or employees, the auditor shall
report the matter to the Central Government.
The manner of reporting the matter to the Central Government is as
follows:
(a) the auditor shall report the matter to the Board or the Audit Committee,
as the case may be, immediately but not later than 2 days of his
knowledge of the fraud, seeking their reply or observations within 45 days;
(b) on receipt of such reply or observations, the auditor shall forward his
report and the reply or observations of the Board or the Audit Committee
along with his comments (on such reply or observations of the Board or
the Audit Committee) to the Central Government within 15 days from the
date of receipt of such reply or observations;
(c) in case the auditor fails to get any reply or observations from the Board
or the Audit Committee within the stipulated period of 45 days, he shall
forward his report to the Central Government along with a note
containing the details of his report that was earlier forwarded to the Board
or the Audit Committee for which he has not received any reply or
observations;

(d) the report shall be sent to the Secretary, Ministry of Corporate Affairs in
a sealed cover by Registered Post with Acknowledgement Due or by Speed
Post followed by an e-mail in confirmation of the same;
(e) the report shall be on the letter-head of the auditor containing postal
address, e-mail address and contact telephone number or mobile number
and be signed by the auditor with his seal and shall indicate his
Membership Number; and
II. Reporting to the Audit Committee or Board: Sub-section (12) of
section 143 of the Companies Act, 2013 further prescribes that in case of a fraud
involving lesser than the specified amount [i.e. less than ` 1 crore], the auditor
shall report the matter to the audit committee constituted under section 177 or
to the Board in other cases within such time and in such manner as may be
prescribed.
Rules, 2014 states that in case of a fraud involving lesser than the amount
specified in sub- rule (1) [i.e. less than ` 1 crore], the auditor shall report the
matter to Audit Committee constituted under section 177 or to the Board
immediately but not later than 2 days of his knowledge of the fraud and he shall
report the matter specifying the following:
(b) Approximate amount involved; and
(c) Parties involved.
III Disclosure in the Board’s Report: Sub-section (12) of section 143 of

the Companies Act, 2013 furthermore prescribes that the companies, whose
auditors have reported frauds under this sub-section (12) to the audit
committee or the Board, but not reported to the Central Government, shall
disclose the details about such frauds in the Board’s report in such manner as
may be prescribed.
Rules, 2014 states that the auditor is also required to disclose in the Board’s

Report the following details of each of the fraud reported to the Audit
Committee or the Board under sub- rule (3) during the year:
(b) Approximate Amount involved;
(c) Parties involved, if remedial action not taken; and
(d) Remedial actions taken.
Sub-section (13) of section 143 of the Companies Act, 2013 safeguards the act
of fraud reporting by the auditor if it is done in good faith. It states that no duty
to which an auditor of a company may be subject to shall be regarded as having
been contravened by reason of his reporting the matter above if it is done in

good faith.
It is very important to note that these provisions shall also apply, mutatis
mutandis, to a cost auditor and a secretarial auditor during the performance
of his duties under section 148 and section 204 respectively. If any auditor, cost
accountant or company secretary in practice do not comply with the provisions
of sub-section (12) of section 143, he shall be punishable with fine which shall
not be less than one lakh rupees but which may extend to twenty-five lakh
rupees.
Reporting on Frauds already detected and reported: The auditor should
apply professional skepticism to evaluate/verify that the fraud was indeed
identified/detected in all aspects by the management or through the company’s
vigil/whistle blower mechanism so that distinction can be clearly made with
respect to frauds identified/detected due to matters raised by the auditor vis-
à-vis those identified/detected by the company through its internal control
mechanism.
Since reporting on fraud under section 143(12) is required even by the cost
auditor and the secretarial auditor of the company, it is possible that a
suspected offence involving fraud may have been reported by them even before
the auditor became aware of the fraud. Here too, if a suspected offence of fraud
has already been reported under section 143(12) by such other person, and the
auditor becomes aware of such suspected offence involving fraud, he need not
report the same since he has not per se identified the suspected offence of
fraud.
However, in case of a fraud which involves or is expected to involve individually,
an amount of ` 1 crore or more, the auditor should review the steps taken by
the management/those charged with governance with respect to the reported
instance of suspected offence of fraud stated above, and if he is not satisfied
with such steps, he should state the reasons for his dissatisfaction in writing and
request the management/ those charged with governance to perform
additional procedures to enable the auditor to satisfy himself that the matter
has been appropriately addressed. If the management/those charged with
governance fail to undertake appropriate additional procedures within 45 days
of his request, the auditor would need to evaluate if he should report the matter
to the Central Government in accordance with Rule 13 of the Companies (Audit
and Auditors) Rules, 2014.

Reporting under Companies (Auditor’s Report) Order, 2016 [CARO, 2016]:

Companies (Auditor’s Report) Order, 2016, whether any fraud by the company
or any fraud on the Company by its officers or employees has been noticed or
reported during the year. If yes, the nature and the amount involved is to be
indicated.
The scope of auditor’s inquiry under this clause is restricted to frauds ‘noticed
or reported’ during the year. It may be noted that this clause of the Order, by
requiring the auditor to report whether any fraud by the company or on the
company by its Officer or employees has been noticed or reported, does not
relieve the auditor from his responsibility to consider fraud and error in an audit
of financial statements. In other words, irrespective of the auditor’s comments
under this clause, the auditor is also required to comply with the requirements
of SA 240, “The Auditor’s Responsibility Relating to Fraud in an Audit of
Financial Statements”.
Audit Procedures and Reporting under CARO:
(1) While planning the audit, the auditor should discuss with other members
of the audit team, the susceptibility of the company to material
misstatements in the financial statements resulting from fraud. While
planning, the auditor should also make inquiries of management to
determine whether management is aware of any known fraud or
suspected fraud that the company is investigating.
(2) The auditor should examine the reports of the internal auditor with a view
to ascertain whether any fraud has been reported or noticed by the
management. The auditor should examine the minutes of the audit
committee, if available, to ascertain whether any instance of fraud
pertaining to the company has been reported and actions taken thereon.
The auditor should enquire from the management about any frauds on
the company that it has noticed or that have been reported to it. The
auditor should also discuss the matter with other employees including
officers of the company. The auditor should also examine the minute book
of the board meeting of the company in this regard.

(3) The auditor should obtain written representations from management that:
(i) it acknowledges its responsibility for the implementation and
operation of accounting and internal control systems that are
designed to prevent and detect fraud and error;
(ii) it believes the effects of those uncorrected misstatements in
financial statements, aggregated by the auditor during the audit are
immaterial, both individually and in the aggregate, to the financial
statements taken as a whole. A summary of such items should be
included in or attached to the written representation;
(iii) it has
(a) disclosed to the auditor all significant facts relating to any
frauds or suspected frauds known to management that may
have affected the entity; and
(b) it has disclosed to the auditor the results of its assessment of
the risk that the financial statements may be materially
misstated as a result of fraud.
4. Because management is responsible for adjusting the financial statements
to correct material misstatements, it is important that the auditor obtains
written representation from management that any uncorrected
misstatements resulting from fraud are, in management’s opinion,
immaterial, both individually and in the aggregate. Such representations
are not a substitute for obtaining sufficient appropriate audit evidence. In
some circumstances, management may not believe that certain of the
uncorrected financial statement misstatements aggregated by the auditor
during the audit are misstatements. For that reason, management may
want to add to their written representation words such as, “We do not
agree that items constitute misstatements because [description of
reasons].”
The auditor should consider if any fraud has been reported by them
during the year under section 143(12) of the Act and if so whether that
same would be reported under this Clause. It may be mentioned here that
section 143(12) of the Act requires the auditor to have reasons to believe
that a fraud is being committed or has been committed by an employee
or officer. In such a case the, auditor needs to report to the Central

Government or the Audit Committee. However, this Clause will include

only the reported frauds and not suspected fraud.
5. Where the auditor notices that any fraud by the company or on the
company by its officers or employees has been noticed by or reported
during the year, the auditor should, apart from reporting the existence of
fraud, also required to report, the nature of fraud and amount involved.
(i) This clause requires all frauds noticed or reported during the year
shall be reported indicating the nature and amount involved. As
specified the fraud by the company or on the company by its officers
or employees are only covered.
(ii) Of the frauds covered under section 143(12) of the Act, only noticed
frauds shall be included here and not the suspected frauds.
(iii) While reporting under this clause with regard to the nature and the
amount involved of the frauds noticed or reported, the auditor may
also consider the principles of materiality outlined in Standards on
Auditing.
6. AUDITOR UNABLE TO CONTINUE THE

ENGAGEMENT
If, as a result of a misstatement resulting from fraud or suspected fraud, the
auditor encounters exceptional circumstances that bring into question the
auditor’s ability to continue performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in the
circumstances, including whether there is a requirement for the auditor to
report to the person or persons who made the audit appointment or, in
some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the engagement,
where withdrawal is possible under applicable law or regulation; and

(ii) Determine whether there is a professional or legal requirement to

report to the person or persons who made the audit appointment
or, in some cases, to regulatory authorities, the auditor’s withdrawal
from the engagement and the reasons for the withdrawal.
SUMMARY
SA 240 “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial
Statements” defines the term ‘fraud’ as “an intentional act by one or more
individuals among management, those charged with governance, employees,
or third parties, involving the use of deception to obtain an unjust or illegal
advantage”.
misstatements resulting from fraudulent financial reporting and misstatements
resulting from misappropriation of assets. Misstatements in the financial
statements can arise from either fraud or error. The distinguishing factor
between fraud and error is whether the underlying action that results in the
misstatement of the financial statements is intentional or unintentional.
Fraud, whether fraudulent financial reporting or misappropriation of assets,
involves incentive or pressure to commit fraud, a perceived opportunity to do
so and some rationalization of the act. Fraudulent financial reporting involves
intentional misstatements including omissions of amounts or disclosures in
financial statements to deceive financial statement users. Misappropriation of
Assets involves the theft of an entity’s assets and is often perpetrated by
employees in relatively small and immaterial amounts.
As per SA 240 the primary responsibility for the prevention and detection of
fraud rests with management. An auditor conducting an audit in accordance
with SAs is responsible for obtaining reasonable assurance that the financial
statements are free from material misstatement, whether caused by fraud or
error.
fraud.
Fraud Reporting [Section 143(12) of Companies Act, 2013 & Rule 13 of CAAR,
2014]

A. Reporting of Fraud involving amount of less than 1 crore rupees: Auditor

to Report Board/Audit Committee within 2 days of knowledge of fraud.
The auditor should Report the following matters:
(a) Nature of Fraud with description; (b) Approximate amount involved; and (c)
Parties involved.
Company is bound to disclose certain specified details in Board’s Report as (a)
Nature of Fraud with description; (b) Approximate amount involved; (c) Parties
involved, if remedial action not taken; and (d) Remedial actions taken.
B. Reporting of Fraud involving amount of rupees 1 crore or above: The
auditor shall report the matter to the Board or the Audit Committee, as the
case may be, immediately but not later than 2 days of his knowledge of the
fraud, seeking their reply or observations within 45 days;
 In case reply/observations received within stipulated time, the auditor is
required to forward report along with reply/observations and comments
to Central Government within 15 days of receipt of such
reply/observations.
 Incase reply/observations not received within stipulated time
(within45days) the auditor should forward the report along with note
containing details of report for which failed to receive any
reply/observations to Central Government.
TEST YOUR KNOWLEDGE

Correct/Incorrect
State with reasons (in short) whether the following statement is correct or
incorrect:
(i) Teeming and lading is one of the techniques of inflating cash payments.
(ii) Fraud can be termed as intentional error.
(iii) Auditor needs to report to Central Government in case of fraud involving
20 lakhs rupees.
(iv) The primary responsibility for the prevention and detection of fraud rests
with both those charged with governance of the entity and management.

(v) Fraudulent financial reporting only involves manipulation, falsification or

alteration of accounting records or supporting documents from which
financial statements are prepared.
(vi) Unusual delays by the entity in providing requested information shows
problematic or unusual relationships between the auditor and
management.
(vii) In comparing management fraud with employee fraud, the auditor’s risk
of failing to discover the fraud is less for management fraud.
(viii) Excessive interest by management in maintaining or increasing the
entity’s inventory price or earnings trend is an example of Fraud Risk
Factor related to Opportunities.
(ix) Misstatements in the financial statements can arise from fraud only.
(x) Misappropriation of Assets involves the theft of an entity’s assets and is
often perpetrated by employees in relatively large and material amounts.
(xi) An auditor conducting an audit in accordance with SAs is responsible for
obtaining absolute assurance that the financial statements taken as a
whole are free from material misstatement, whether caused by fraud or
error.
1. What do you understand by the term ‘fraud’? Provide its meaning as given
as under the Standard on Auditing (SA) 240.
2. Briefly explain self-revealing errors with the help of some illustration.
3. There are many ways for cash defalcation, one of which is suppressing
cash receipts. List out few techniques of how the receipts are suppressed.
4. Fraud Risk Factors are the events or conditions that indicate an incentive
or pressure to commit fraud or provide an opportunity to commit fraud.
Further, the nature of the industry or the entity’s operations also provides
opportunities to engage in fraudulent financial reporting. List out some
of the cases from where these opportunities may arise.
5. You notice a misstatement resulting from fraud or suspected fraud during
the audit and conclude that it is not possible to continue the performance
of audit. As a statutory Auditor, how would you deal?

6. Explain the scope of a Company Auditor’s enquiry on Fraud matters as

enshrined in the Companies (Auditor’s Report) Order, 2016.
7. During the Statutory Audit of a Public Limited Company , XYZ Ltd. its
auditor, Mr. Bajaj , the engagement partner of Bajaj Chopra & Associates
, encounters some exceptional circumstances that bring into question his
ability to continue performing the audit while suspecting a fraud arising
from material misstatements. Explain the steps to be taken in such a case.
misappropriation of those assets. Enlist some examples of such
circumstances.
9. In an audit of Financial statements of PQR Ltd., CA Vikas Khemka finds
that the Cash receipts have been suppressed. Give examples of such
techniques which may have led him suspect this.
10. Enlist the instances which induce Management/Employees to commit
fraud?
11. Fraudulent financial reporting often involves management override of
controls that otherwise may appear to be operating effectively. Explain
some techniques by which fraud can be committed by management
overriding controls.
ANSWERS/SOLUTIONS
(i) Incorrect: Teeming and Lading is one of the techniques of suppressing
cash receipts and not of inflating cash payments. Money received from
one customer is misappropriated and the account is adjusted with the
subsequent receipt from another customer and so on.
(ii) Correct: Fraud is the word used to mean intentional error. This is done
deliberately which implies that there is intent to deceive, to mislead or at
least to conceal the truth. It follows that other things being equal they are
more serious than unintentional errors because of the implication of
dishonestly which accompanies them.
(iii) Incorrect: As per section 143(12) of the Companies Act, 2013, if an auditor
of a company, in the course of the performance of his duties as auditor,

has reason to believe that an offence involving fraud is being or has been
committed against the company by officers or employees of the company,
he shall immediately report the matter to the Central Government (in case
amount of fraud is ` 1 crore or above) or Audit Committee or Board in
other cases (in case the amount of fraud involved is less than 1 crore)
within such time and in such manner as may be prescribed.
Thus, fraud involving amount of 20 lakh rupees should be reported to
Audit Committee.
(iv) Correct: As per SA 240 “The Auditor’s Responsibilities Relating to Fraud
in an Audit of Financial Statements’. It is important that management, with
the oversight of those charged with governance place a strong emphasis
on fraud prevention, which may reduce opportunities for fraud to take
place, and fraud deterrence, which could persuade individuals not to
commit fraud because of the likelihood of detention and punishment. This
involves a commitment to create a culture of honesty and ethical behavior
which can be reinforced by an active oversight by those charged with
governance.
(v) Incorrect: As per SA 240, ”The Auditor’s Responsibilities Relating to fraud
in an Audit of Financial Statements’, fraudulent financial reporting may
involve manipulation, falsification or alteration of accounting records or
supporting documents from which financial statements are prepared,
misrepresentation in or intentional omission from, financial statements of
events, transaction or other significant information or intentional
misapplication of accounting principles relating to amounts, classification,
manner of presentation or disclosure.
(vi) Correct: It is a strong example of circumstances that indicate the
possibility of fraud. This happiness only because of the Management’s
intolerance towards the auditor’s Professional skepticism
(vii) Incorrect: In comparing management fraud with employee fraud, the
auditor’s risk of failing to discover the fraud is greater for management
fraud because of management’s ability to override existing internal
controls
(viii) Incorrect: Excessive interest by management in maintaining or increasing
the entity’s inventory price or earnings trend is an example of Fraud Risk
Factor related to Rationalization.

(ix) Incorrect: Misstatements in the financial statements can arise from either
fraud or error. The distinguishing factor between fraud and error is
whether the underlying action that results in the misstatement of the
financial statements is intentional or unintentional.
(x) Incorrect:- Misappropriation of Assets involves the theft of an entity’s
assets and is often perpetrated by employees in relatively small and
immaterial amounts.
(xi) Incorrect:- An auditor conducting an audit in accordance with SAs is
responsible for obtaining reasonable assurance that the financial
statements taken as a whole are free from material misstatement, whether
caused by fraud or error. As described in SA200, “Overall Objectives of
the Independent Auditor and the Conduct of an Audit in Accordance
with Standards on Auditing,” owing to the inherent limitations of an
audit, there is an unavoidable risk that some material misstatements of
the financial statements will not be detected, even though the audit is
properly planned and performed in accordance with the SAs.
Answer to Theoretical Questions

1. Meaning of Fraud: The SA 240 ‘The Auditor’s Responsibilities Relating
to Fraud in an Audit of Financial Statements; defines the term fraud as an
intentional act by one or more individuals among management, those
charged with governance, employees, or third parties, involving the use
of deception to obtain an unjust or illegal advantage.
2. Self Revealing Errors: These are such errors the existence of which
becomes apparent in the process of compilation of account. A few
illustrations of such errors are given hereunder, showing how they
become apparent.
(i) Omission to post a part of a Trial balance is thrown out of
journal entry to the ledger. agreement
(ii) Wrong totaling of the Control Account [e.g. the Sundry
Purchase Register Trade payables Account) balances
and the aggregate of the balance in
the personal ledger will disagree.

(iii) A failure to record in the Bank reconciliation statement will

cash book amounts paid show up error.
into or withdrawn from the
bank.
(iv) A mistake in recording Statements of account of parties will
amount received from X in reveal mistake.
the account of Y.
From the above, it is clear that certain apparent errors balance almost
automatically by double entry accounting procedure and by following
established practices that lie within the accounting system but not being
generally considered to be a part of it, like bank reconciliation or sending
monthly statements of account for confirmation.
3. Declaration of Cash by Supporting Cash Receipts: Refer Para 2.2.2.2
4. Fraud Risk Factors-Opportunities. Refer 4.1
5. Impossible to Continue the Performance of Audit: Refer Para 6.
6. The auditor is also required to report under clause (x) of paragraph 3 of
Companies (Auditor’s Report) Order, 2016, whether any fraud by the
company or any fraud on the Company by its officers or employees has
been noticed or reported during the year. If yes, the nature and the
amount involved is to be indicated.
The scope of auditor’s inquiry under this clause is restricted to frauds
‘noticed or reported’ during the year. It may be noted that this clause of
the Order, by requiring the auditor to report whether any fraud by the
company or on the company by its Officer or employees has been noticed
or reported, does not relieve the auditor from his responsibility to
consider fraud and error in an audit of financial statements. In other
words, irrespective of the auditor’s comments under this clause, the
auditor is also required to comply with the requirements of SA 240, “The
Auditor’s Responsibility Relating to Fraud in an Audit of Financial
Statements”.
7. If, as a result of a misstatement resulting from fraud or suspected fraud,
the auditor encounters exceptional circumstances that bring into question
the auditor’s ability to continue performing the audit, the auditor shall:

(a) Determine the professional and legal responsibilities applicable in

the circumstances, including whether there is a requirement for the
auditor to report to the person or persons who made the audit
appointment or, in some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the
engagement, where withdrawal is possible under applicable law or
regulation; and
(ii) Determine whether there is a professional or legal
requirement to report to the person or persons who made the
audit appointment or, in some cases, to regulatory authorities,
the auditor’s withdrawal from the engagement and the
misappropriation of those assets. For example, misappropriation of
assets may occur because there is the following:
• Inadequate segregation of duties or independent checks.
• Inadequate oversight of senior management expenditures, such as
travel and other reimbursements.
• Inadequate record keeping with respect to assets.
• Inadequate system of authorization and approval of transactions
(for example, in purchasing).
• Inadequate physical safeguards over cash, investments, inventory,
or fixed assets.
• Lack of complete and timely reconciliations of assets.
• Lack of timely and appropriate documentation of transactions, for
• Lack of mandatory vacations for employees performing key control
functions.

• Inadequate management understanding of information technology,

misappropriation.
• Inadequate access controls over automated records, including
controls over and review of computer systems event logs.
9. (1) Teeming and Lading: Amount received from a customer being
them.
10. Following are such certain instances:-
• Financial obligations/ Pressure.
• Management’s unrealistic goals.
• Dissatisfied Employees or Lack of motivation among employees.
• Name game (e.g management using power of authority by asking
• Opportunity to commit fraud.

11. Fraud can be committed by management overriding controls using such

techniques as:
• Recording fictitious journal entries, particularly close to the end of
an accounting period, to manipulate operating results or achieve
other objectives.
• Inappropriately adjusting assumptions and changing judgments
used to estimate account balances.
• Omitting, advancing or delaying recognition in the financial
statements of events and transactions that have occurred during the
reporting period.
• Concealing, or not disclosing, facts that could affect the amounts
• Engaging in complex transactions that are structured to
misrepresent the financial position or financial performance of the
entity.
• Altering records and terms related to significant and unusual
transactions.

CHAPTER
10
THE COMPANY AUDIT
LEARNING OUTCOMES
❑ Understand qualification and disqualification of an auditor.
❑ Know the procedures of appointment, reappointment, filling up of the
casual vacancies and removal of auditor.
❑ Understand powers and duties of auditor.
❑ Understand the provisions relating to rotational retirement.

Company Audit
• Appointment of Auditor
• Rotation of Auditor
• Audit Committee
• Auditor's Remuneration
• Removal of Auditor
• Ceiling Limit
• Powers & Duties of Auditor
• Audit Report as per Co., Act 2013
• Joint Audit
• Audit of Branch
• Cost Audit
• Punishment for non-compliance
INTRODUCTION
Companies Act, 2013 is rule based Act. Sections 139 to 148 of the Companies
Act, 2013 (hereinafter referred to as the Act unless otherwise mentioned) deal
SECTIONS COVERED IN THIS CHAPTER
139. Appointment of auditors.

140. Removal, resignation of auditor and giving of special notice.
141. Eligibility, qualifications and disqualifications of auditors.
142. Remuneration of auditors.
143. Powers and duties of auditors and auditing standards.
144. Auditor not to render certain services.
145. Auditors to sign audit reports, etc.
146. Auditors to attend general meeting.
147. Punishment for contravention.
148. Central Government to specify audit of items of cost in respect of certain
companies.

with provisions relating to audit of companies. Therefore, it is quite important

to understand these provisions very carefully. You may also study sections 128
to 138 relating to “Accounts” of companies for better understanding of the
subject. The provisions relating to ‘audit’ broadly deal with who can be
appointed as an auditor under the Act, i.e., qualifications and disqualifications,
the manner of appointment and removal of an auditor and rights and duties of
an auditor. A scheme of the provisions of the Act relating to audit is given below
for quick reference:
1. ELIGIBILITY, QUALIFICATIONS AND

DISQUALIFICATIONS OF AN AUDITOR
The provisions relating to eligibility, qualifications and disqualifications of an
auditor are governed by section 141 of the Companies Act, 2013 (hereinafter
referred as the Act). The main provisions are stated below:
(1) A person shall be eligible for appointment as an auditor of a company
only if he is a chartered accountant.
It may be noted that a firm whereof majority of partners practising in India
are qualified for appointment as aforesaid may be appointed by its firm
name to be auditor of a company.
(2) Where a firm including a limited
liability partnership is appointed as
an auditor of a company, only the
partners who are chartered
accountants shall be authorised to
act and sign on behalf of the firm.
(3) Under sub-section (3) of section
141 along with Rule 10 of the
Companies (Audit and Auditors) Fig.: Is the person eligible for
Rules, 2014 (hereinafter referred as appointment as auditor?*
CAAR), the following persons shall not
be eligible for appointment as an
auditor of a company, namely-
(a) a body corporate other than a limited liability partnership registered
under the Limited Liability Partnership Act, 2008;

(b) an officer or employee of the company;

(c) a person who is a partner, or who is in the employment, of an officer
or employee of the company;
(d) a person who, or his relative or partner -
(i) is holding any security of or interest in the company or its
subsidiary, or of its holding or associate company or a
subsidiary of such holding company;
It may be noted that the relative may hold security or interest
in the company of face value not exceeding Rupees 1,00,000.
It may also be noted that the condition of Rupees 1,00,000
shall, wherever relevant, be also applicable in the case of a
company not having share capital or other securities.
Students may also note that in the event of acquiring any
security or interest by a relative, above the threshold
prescribed, the corrective action to maintain the limits as
specified above shall be taken by the auditor within 60 days
of such acquisition or interest.
The following points merit consideration in this regard:
(a) The value of shares of Rupees 1,00,000 that can be held
by relative is the face value not the market value.
(b) The limit of Rupees 1,00,000 would be applicable where
the securities are held by the relative of an auditor and
not where the securities are held by an auditor himself
or his partner. In case of an auditor or his partner,
securities of even small value shall be a disqualification.
(c) Grace period of 60 days for corrective action shall apply
only in respect of securities held by relatives. This would
not apply to auditor or his partner.
[The term “relative”, as defined under the Companies Act,
2013, means anyone who is related to another as members of
a Hindu Undivided Family; husband and wife; Father (including
step- father), Mother (including step-mother), Son (including

step- son), Son’s wife, Daughter, Daughter’s husband, Brother

(including step- brother), Sister (including step-sister).]
Example
Ex 1: Mr. A, a practicing Chartered Accountant, is holding securities

of XYZ Ltd. having face value of ` 900. Whether Mr. A is qualified for
appointment as an auditor of XYZ Ltd.?
As per section 141(3)(d)(i), an auditor is disqualified to be appointed
as an auditor if he, or his relative or partner holding any security of
or interest in the company or its subsidiary, or of its holding or
associate company or a subsidiary of such holding company.
In the present case, Mr. A is holding security of ` 900 in XYZ Ltd.
Therefore, he is not eligible for appointment as an auditor of XYZ Ltd.
Ex 2: Mr. P is a practicing Chartered Accountant and Mr. Q, the
relative of Mr. P, is holding securities of ABC Ltd. having face value of
` 90,000. Whether Mr. P is qualified from being appointed as an
auditor of ABC Ltd.?
company or a subsidiary of such holding company. Further, as per
` 1,00,000.
In the present case, Mr. Q. (relative of Mr. P), is having securities of
` 90,000 face value in ABC Ltd., which is as per requirement of proviso
to section 141(3)(d)(i). Therefore, Mr. P will not be disqualified to be
appointed as an auditor of ABC Ltd.
Ex 3: M/s BC & Co. is an Audit Firm having partners Mr. B and Mr. C,
and Mr. A the relative of Mr. C, is holding securities of MWF Ltd.
having face value of ` 1,01,000. Whether M/s BC & Co. is qualified
from being appointed as an auditor of MWF Ltd.?

company or a subsidiary of such holding company. Further as per

` 1,00,000.
In the instant case, M/s BC & Co, will be disqualified for appointment
as an auditor of MWF Ltd. as the relative of Mr. C (i.e. partner of M/s
BC & Co.) is holding the securities in MWF Ltd. which is exceeding the
limit mentioned in proviso to section 141(3)(d)(i).
Ex 4: M/s RM & Co. is an audit firm having partners CA. R and CA. M.
The firm has been offered the appointment as an auditor of Enn Ltd.
for the Financial Year 2016-17. Mr. Bee, the relative of CA. R, is
holding 5,000 shares (face value of ` 10 each) in Enn Ltd. having
market value of ` 1,50,000. Whether M/s RM & Co. is disqualified to
be appointed as auditors of Enn Ltd.?
As per section 141(3)(d)(i), a person shall not be eligible for
appointment as an auditor of a company, who, or his relative or
partner is holding any security of or interest in the company or its
subsidiary, or of its holding or associate company or a subsidiary of
such holding company. However, as per proviso to this section, the
relative of the person may hold the securities or interest in the
company of face value not exceeding of ` 1,00,000.
In the instant case, M/s RM & Co. is an audit firm having partners CA.
R and CA.
M. Mr. Bee is a relative of CA. R and he is holding shares of Enn Ltd.
of face value of ` 50,000 only (5,000 shares x ` 10 per share).
Therefore, M/s RM & Co. is not disqualified for appointment as an
auditors of Enn Ltd. as the relative of CA. R (i.e. partner of M/s RM &
Co.) is holding the securities in Enn Ltd. which is within the limit
mentioned in proviso to section 141(3)(d)(i) of the Companies Act,
2013.
(ii) is indebted to the company, or its subsidiary, or its holding or
associate company or a subsidiary of such holding company,
in excess of Rupees 5,00,000; or

(iii) has given a guarantee or provided any security in connection

with the indebtedness of any third person to the Company or
its Subsidiary, or its Holding or Associate Company or a
Subsidiary of such Holding Company, in excess of Rupees
1,00,000.
(e) a person or a firm who, whether directly or indirectly has business
relationship with the Company, or its Subsidiary, or its Holding or
Associate Company or Subsidiary of such holding company or
associate company, of such nature as may be prescribed;
Students may note that for the purpose of clause (e) above, the term
“business relationship” shall be construed as any transaction
entered into for a commercial purpose, except –
(i) commercial transactions which are in the nature of
professional services permitted to be rendered by an auditor
or audit firm under the Act and the Chartered Accountants Act,
1949 and the rules or the regulations made under those Acts;
(ii) commercial transactions which are in the ordinary course of
business of the company at arm’s length price - like sale of
products or services to the auditor, as customer, in the
ordinary course of business, by companies engaged in the
business of telecommunications, airlines, hospitals, hotels and
such other similar businesses.
(f) a person whose relative is a Director or is in the employment of the
Company as a director or key Managerial Personnel.
(g) a person who is in full time employment elsewhere or a person or a
partner of a firm holding appointment as its auditor, if such person
or partner is at the date of such appointment or reappointment
holding appointment as auditor of more than twenty companies
other than one person companies, dormant companies, small
companies and private companies having paid-up share capital less
than Rupees 100 crore.
(h) a person who has been convicted by a Court of an offence involving
fraud and a period of ten years has not elapsed from the date of
such conviction.

(i) a person who, directly or indirectly, renders any service referred

to in section 144 to the company or its holding company or its
subsidiary company.
It may be noted that, for the purposes of this clause, the term
"directly or indirectly" shall have the same meaning as assigned
to it in the Explanation to section 144, i.e.
In case of auditor being an individual, either himself or through
his relative or any other person connected or associated with
such individual or through any other entity, whatsoever, in
which such individual has significant influence or control, or
whose name or trade mark or brand is used by such individual,
shall be termed as rendering of services directly or indirectly by
the auditor; and
In case of auditor being a firm, either itself or through any of its
partners or through its parent, subsidiary or associate entity or
through any other entity, whatsoever,
in which the firm or any partner of the firm has significant
influence or control, or whose name or trade mark or brand is
used by the firm or any of its partners, shall be termed as
rendering of services directly or indirectly by the auditor.
Section 144 of the Companies Act, 2013 prescribes certain services not
to be rendered by the auditor. An auditor appointed under this Act shall
provide to the company only such other services as are approved by the
Board of Directors or the audit committee, as the case may be, but which
shall not include any of the following services
(whether such services are rendered directly or
indirectly to the company or its holding company or
subsidiary company), namely:
*
Fig.: Auditor restrained from entering into certain services



*Actuarial services broadly pertain to services relating to evaluation of
financial impact of risks using range of mathematical and statistical
methods
It may be noted that an auditor or audit firm who or which has been
performing any non- audit services on or before the commencement of
this Act shall comply with the provisions of this section before the closure
of the first financial year after the date of such commencement.
Example
CA. Poshin is providing the services of investment banking to C Ltd. Later
on, he was also offered to be appointed as an auditor of the company for
the current financial year. Advise.
Section 141(3)(i) of the Companies Act, 2013 disqualifies a person for
appointment as an auditor of a company who, directly or indirectly, renders
any service referred to in section 144 to the company or its holding
company or its subsidiary company. Section 144 of the Companies Act, 2013
prescribes certain services not to be rendered by the auditor which includes
investment banking services.
Therefore, CA. Poshin is advised not to accept the assignment of auditing as
the investment banking service is specifically notified in the list of services
not to be rendered by him as per section 141(3)(i) read with section 144 of
the Companies Act, 2013.
(4) Where a person appointed as an auditor of a company incurs any of the
disqualifications mentioned in sub-section (3) after his appointment, he
shall vacate his office as such auditor and such vacation shall be deemed
to be a casual vacancy in the office of the auditor.

CASE STUDY
Facts of the Case: Mr. A, a chartered accountant, has been appointed as an auditor
of Laxman Ltd. in the Annual General Meeting of the company held in September,
2016, which assignment he accepted. Subsequently in January, 2017 he joined Mr. B,
another chartered accountant, who is the Manager Finance of Laxman Ltd., as partner.
Provisions and Explanation: Section 141(3)(c) of the Companies Act, 2013
prescribes that any person who is a partner or in employment of an officer or
employee of the company will be disqualified to act as an auditor of a company.
Sub-section (4) of Section 141 provides that an auditor who becomes subject, after
his appointment, to any of the disqualifications specified in sub-sections (3) of
Section 141, he shall be deemed to have vacated his office as an auditor.
Conclusion: In the present case, Mr. A, an auditor of Laxman Ltd., joined as partner
with Mr. B, who is Manager Finance of Laxman Limited. The given situation has
attracted sub- section (3)(c) of Section 141 and, therefore, he shall be deemed to have
vacated office of the auditor of Laxman Limited in accordance with sub-section (4) of
section 141.
2. APPOINTMENT OF AUDITOR
Section 139 of the Companies Act, 2013 contains provisions regarding
Appointment of Auditors. Discussion on appointment of auditors may be
grouped under two broad headings-
(I) Appointment of First Auditors.
(II) Appointment of Subsequent Auditors.
Fig: Meeting for appointment of Auditor*
*
Source of image : http://newhavenscience.org

Appointment of
Auditor [Section 139]
Subsequent
First Auditor
Auditor
Other than Government Other than Government

Government Company Government Company
Company defined u/s Company defined u/s
[Section 2(45) [Section [Section 2(45) [Section
139(6)] 139(7) 139(1)] 139(5)
Appointment
by BOD Appointment by Appointment Appointment by
C&AG within 60 by Members in C & AG within
days from the AGM 180 days from
within 30 days DOR
from DOR
the
commencement
of year
in case of failure
in case of BOD within 30 Hold the
failure: days office from 1st
Members in AGM to 6th
EGM within 90 AGM subject Hold the
days in case of failure office till the
to fulfillment
Members in conclusion of
of certain
EGM with in 60 the AGM
days conditions
Hold the office
till the
conclusion of
the first AGMS
Hold the office
till the
conclusion of
the first AGM

2.1 Appointment of First Auditor

2.1.1 Appointment of First Auditors in the case of a company, other
than a Government Company
As per Section 139(6), the first auditor of a company, other than a Government
company, shall be appointed by the Board of Directors within 30 days from the
date of registration of the company.
In the case of failure of the Board to appoint the auditor, it shall inform the
members of the company.
meeting appoint the auditor. Appointed auditor shall hold office till the
conclusion of the first annual general meeting.
CASE STUDY
Facts of the Case: Managing Director of Pigeon Ltd. himself wants to appoint
CA. Champ, a practicing Chartered Accountant, as first auditor of the company.
Provisions and Explanation: Section 139(6) of the Companies Act, 2013 lays
down that the first auditor of a company shall be appointed by the Board of
Directors within 30 days from the date of registration of the company. In the
instant case, the proposed appointment of CA. Champ, a practicing Chartered
Accountant, as first auditor by the Managing Director of Pigeon Ltd. by himself is
in violation of Section 139(6) of the Companies Act, 2013, which authorizes the
Board of Directors to appoint the first auditor of the company.
Conclusion: In view of the above, the Managing Director of Pigeon Ltd. should
be advised not to appoint the first auditor of the company.
2.1.2 Appointment of First Auditors in the case of Government

Company:
A “Government company” is a company in which not less than 51% of the paid-up
share capital is held by the Central Government or by any State Government or
Governments or partly by the Central Government and partly by one or more State
Governments, and includes a company which is a subsidiary company of such a
Government company.
Section 139(7) provides that in the case of a Government company or any
other company owned or controlled, directly or indirectly, by the Central

Government, or by any State Government, or Governments, or partly by the

Central Government and partly by one or more State Governments, the first
auditor shall be appointed by the Comptroller and Auditor-General of India
within 60 days from the date of registration of the company.
In case the Comptroller and Auditor-General of India does not appoint such
auditor within the above said period, the Board of Directors of the company
shall appoint such auditor within the next 30 days. Further, in the case of failure
of the Board to appoint such auditor within next 30 days, it shall inform the
members of the company who shall appoint such auditor within 60 days at an
extraordinary general meeting. Auditors shall hold office till the conclusion of
CASE STUDY
Facts of the Case: The first auditor of Bhartiya Petrol Ltd., a Government
company, was appointed by the Board of Directors.
Provisions and Explanation: In the case of a Government Company, the
appointment of first auditor is governed by the provisions of Section 139(7) of the
Companies Act, 2013 which states that in the case of a Government company, the
first auditor shall be appointed by the Comptroller and Auditor-General of India
within 60 days from the date of registration of the company. Hence, in the case of
Bhartiya Petrol Ltd., being a government company, the first auditor shall be
appointed by the Comptroller and Auditor General of India.
Conclusion: Thus, the appointment of first auditor made by the Board of
Directors of Bhartiya Petrol Ltd., is null and void.
2.2 Appointment of Subsequent

Auditor/Reappointment of Auditor
2.2.1 Appointment of Subsequent Auditors in case of Non Government
Companies:
Section 139(1) of the Companies Act, 2013 provides that every company shall,
at the first annual general meeting appoint an individual or a firm as an auditor
who shall hold office from the conclusion of that meeting till the conclusion of
its sixth annual general meeting and thereafter till the conclusion of every sixth
meeting.


(i) Before such appointment is made, the written consent of the auditor to
such appointment, and a certificate from him or it that the appointment,
if made, shall be in accordance with the conditions as may be prescribed,
shall be obtained from the auditor.
(ii) Under Rule 4 of The Companies (Audit and Auditors) Rules, 2014, the said
certificate shall state the following:-
(a) the individual or the firm, as the case may be, is eligible for
appointment and is not disqualified for appointment under the Act,
the Chartered Accountants Act, 1949 and the rules or regulations
made thereunder;
(b) the proposed appointment is as per the term provided under the
Act;
(c) the proposed appointment is within the limits laid down by or under
the authority of the Act;
(d) the list of proceedings against the auditor or audit firm or any
partner of the audit firm pending with respect to professional
matters of conduct, as disclosed in the certificate, is true and correct.
(iii) The company shall inform the auditor concerned of his or its appointment,
and also file a notice of such appointment with the Registrar within 15
days of the meeting in which the auditor is appointed.
2.2.2 Appointment of Subsequent Auditors in case of Government
Companies:
As per section 139(5), in the case of a Government company or any other
company owned or controlled, directly or indirectly, by the Central Government,
or by any State Government or Governments, or partly by the Central
Government and partly by one or more State Governments, the Comptroller
and Auditor-General of India shall, in respect of a financial year, appoint an
auditor duly qualified to be appointed as an auditor of companies under this
Act, within a period of 180 days from the commencement of the financial year,
who shall hold office till the conclusion of the annual general meeting.
Therefore, it is to be clearly understood that in case of government companies
or companies controlled by government, auditor is appointed by Comptroller

and Auditor general of India in the manner provided in Section 139(5) and
139(7). It is to be remembered that Comptroller and auditor general of India is
independent constitutional authority which audits all receipts and expenditure
of Government of India and state governments including those of bodies,
corporations financed by government.
2.3 Filling of a Casual Vacancy

As per Section 139(8), any casual vacancy in the office of an auditor shall-
(i) In the case of a company other than a company whose accounts are
subject to audit by an auditor appointed by the Comptroller and
Auditor-General of India, be filled by the Board of Directors within 30
days.
If such casual vacancy is as a result of the resignation of an auditor, such
appointment shall also be approved by the company at a general meeting
convened within three months of the recommendation of the Board and
he shall hold the office till the conclusion of the next annual general
meeting.
(ii) In the case of a company whose accounts are subject to audit by an
auditor appointed by the Comptroller and Auditor-General of India,
be filled by the Comptroller and Auditor-General of India within 30 days.
It may be noted that in case the Comptroller and Auditor-General of India does
not fill the vacancy within the said period the Board of Directors shall fill the
vacancy within next 30 days.

2.3.1 Casual Vacancy by Resignation:

As per section 140(2) of the Act, the auditor who has resigned from the
company shall file within a period of 30 days from the date of resignation, a
statement in the prescribed Form ADT–3 (as per Rule 8 of CAAR) with the
company and the Registrar.
In case of the companies referred to in section 139(5) i.e. Government company,
the auditor shall also file such statement with the CAG along with the company
and the Registrar.
The auditor shall indicate the reasons and other facts as may be relevant with
regard to his resignation.
In case of failure, the auditor shall be liable to a penalty of fifty thousand rupees or
the remuneration of the auditor, whichever is less, and in case of continuing failure,
with further penalty of five hundred rupees for each day after the first during which
such failure continues, subject to a maximum of five lakh rupees as per section
140(3).
CASE STUDY
Facts of the Case: CA. Donald was appointed as the auditor of PS Ltd. at
the remuneration of ` 30,000. However, after 4 months of continuing his
services, he could not continue to hold his office of the auditor as his wife
got a government job at a distant place and he needs to shift along with
her to the new place. Thus, he resigned from the company and did not
perform his responsibilities relating to filing of statement to the company
and the registrar indicating the reasons and other facts as may be relevant
with regard to his resignation.
How much fine may he be punishable with under section 140(3) for non-
compliance of section 140(2) of the Companies Act, 2013?
Provisions and Explanation: For non-compliance of sub-section (2) of
section 140 of the Companies Act, 2013, the auditor shall be punishable
with fine, which shall not be less than fifty thousand rupees or the
remuneration of the auditor, whichever is less but which may extend to five
lakh rupees, under section 140(3) of the said Act.
Conclusion: Thus, the fine under section 140(3) of the Companies Act, 2013
shall not be less than ` 30,000 but which may extend to ` 5,00,000 .

Other Important Provisions Regarding Appointment of Auditors

(1) A retiring auditor may be re-appointed at an annual general meeting, if-
(a) he is not disqualified for re-appointment;
(b) he has not given the company a notice in writing of his unwillingness to
be re - appointed; and
(c) a special resolution has not been passed at that meeting appointing
some other auditor or providing expressly that he shall not be re-
appointed.
(2) Where at any annual general meeting, no auditor is appointed or re-
appointed, the existing auditor shall continue to be the auditor of the
company.
3 ROTATION OF AUDITOR
3.1 Applicability of Section 139(2) Rotation of Auditor:
As per rules prescribed in Companies (Audit and
Auditors) Rules, 2014, for applicability of section 139(2)
the class of companies shall mean the following
classes of companies excluding one person companies
and small companies-
Fig: Rotation of Auditors*
*
Source of image: the hindu business line.com

Class of Companies for Rotation of Auditor

↓
including Listed Companies
+
excluding OPC (One Person Company) and Small Companies
All companies having

paid up share capital of
below threshold limit
All unlisted public All private limited
companies having paid companies having paid up mentioned,
up share capital share capital but
≥` 10 crore ≥ ` 50 crore
having public borrowings
from financial
institutions, banks or
public deposits
≥ ` 50 crore
(i) all unlisted public companies having paid up share capital of rupees ten
crore or more;
(ii) all private limited companies having paid up share capital of rupees fifty
crore or more;
(iii) all companies having paid up share capital of below threshold limit
institutions, banks or public deposits of rupees fifty crores or more.
Example
Rano Pvt. Ltd. is a private limited Company, having paid up share capital of ` 42
crore but having public borrowing from nationalized banks and financial
institutions of ` 72 crore, manner of rotation of auditor will be applicable.
As per section 139(2), no listed company or a company belonging to such class
or classes of companies as mentioned above, shall appoint or re-appoint-
(a) an individual as auditor for more than one term of five consecutive years;
and
(b) an audit firm as auditor for more than two terms of five consecutive years.
Provided that -

(i) an individual auditor who has completed his term under clause (a)
shall not be eligible for re-appointment as auditor in the same
company for five years from the completion of his term;
(ii) an audit firm which has completed its term under clause (b), shall
not be eligible for re-appointment as auditor in the same company
for five years from the completion of such term.
Therefore, provisions of Section 139(2) relating to rotation of
auditors are applicable only to listed companies and class of
companies satisfying conditions stated in para 3.1 above.
Example
Jolly Ltd., a listed company, appointed M/s Polly & Co., a Chartered Accountant
firm, as the statutory auditor in its AGM held at the end of September, 2016 for
11 years. Here, the appointment of M/s Polly & Co. is not valid as the
appointment can be made only for one term of five consecutive years and then
another one more term of five consecutive years. It can’t be appointed for two
terms in one AGM only. Further, a cooling period of five years from the
completion of term is required i.e. the firm can’t be re-appointed for further 5
years after completion of two terms of five consecutive years.
The following points merit consideration in this regard-

(1) As on the date of appointment, no audit firm having a common partner
or partners to the other audit firm, whose tenure has expired in a company
immediately preceding the financial year, shall be appointed as auditor of
the same company for a period of five years.
Example
M/s XYZ & Co., is an audit firm having partner Mrs. X, Mr. Y and Mr. Z,
whose tenure has expired in the company immediately preceding the
financial year. M/s ABZ & Co., another audit firm in which Mr. Z is a
common partner, will also be disqualified for the same company along
with M/S XYZ & Co. for the period of five years.
(2) Every company, existing on or before the commencement of this Act

which is required to comply with provisions of this sub-section, shall
comply with the requirements of this sub- section within a period which
shall not be later than the date of the first annual general meeting of the

company held, within the period specified under sub-section (1) of section
96, after three years from the date of commencement of this Act.
Examples
Ex 1: Mr. Raj, a Chartered Accountant, is an individual auditor of Binaca

Limited for last 5 years as on March, 2013 (i.e. existing on or before the date
of Commencement of Companies Act, 2013). Keeping in view the transition
period as stated in the Companies Act, 2013, Mr. Raj can continue the audit
of Binaca Ltd. upto the first annual general meeting to be held after three
years from the date of commencement of the Act.
Ex 2: M/s Raj & Associates, a Chartered Accountants Audit Firm, is doing
audit of Binaca Limited for last 11 years as on March, 2013 (i.e. existing on
or before the date of Commencement of Companies Act, 2013). Keeping in
view the transition period as stated in the Companies Act, 2013, M/s Raj
Associates can continue the audit of Binaca Ltd. upto the first annual general
meeting to be held after three years from the date of commencement of the
Act.
Students may interlink the above example with Illustrative table

explaining rotation in case of individual auditor as well as audit firm
which has been given after the 3.2 i.e. Manner of rotation of Auditors
by the Companies on Expiry of their Term.*
(3) It has also been provided that right of the company to remove an auditor
or the right of the auditor to resign from such office of the company shall
not be prejudiced.
(4) Subject to the provisions of this Act, members of a company may resolve
to provide that -
(a) in the audit firm appointed by it, the auditing partner and his team
shall be rotated at such intervals as may be resolved by members;
or
(b) the audit shall be conducted by more than one auditor.
(5) The Central Government may, by rules, prescribe the manner in which the
companies shall rotate their auditors.

3.2 Manner of Rotation of Auditors by the Companies

on Expiry of their Term:
Rule 6 of the Companies (Audit and Auditors) Rules, 2014 prescribes the manner
of rotation of auditors on expiry of their term which is given below-
(1) The Audit Committee shall recommend to the Board, the name of an
individual auditor or of an audit firm who may replace the incumbent
auditor on expiry of the term of such incumbent.
(2) Where a company is required to constitute an Audit Committee, the Board
shall consider the recommendation of such committee, and in other
cases, the Board shall itself consider the matter of rotation of auditors and
make its recommendation for appointment of the next auditor by the
members in annual general meeting.
(3) For the purpose of the rotation of auditors-
(i) in case of an auditor (whether an individual or audit firm), the period
for which the individual or the firm has held office as auditor prior
to the commencement of the Act shall be taken into account for
calculating the period of five consecutive years or ten consecutive
years, as the case may be;
(ii) the incoming auditor or audit firm shall not be eligible if such
auditor or audit firm is associated with the outgoing auditor or audit
firm under the same network of audit firms.
Explanation I - For the purposes of these rules the term “same
network” includes the firms operating or functioning, hitherto or in
future, under the same brand name, trade name or common control.
Explanation II - For the purpose of rotation of auditors,
(a) a break in the term for a continuous period of five years shall
be considered as fulfilling the requirement of rotation;
(b) if a partner, who is in charge of an audit firm and also certifies
the financial statements of the company, retires from the said
firm and joins another firm of chartered accountants, such
other firm shall also be ineligible to be appointed for a period
of five years.

*Illustration explaining rotation in case of individual auditor
Number of consecutive Maximum number of Aggregate period

years for which an consecutive years for which the auditor
individual auditor has which he may be would complete in
been functioning as appointed in the the same company in
auditor in the same same company view of column I and
company [in the first AGM (including II
held after the transitional period)
commencement of
provisions of section
139(2)]
I II III
5 Years (or more than 5 3 years 8 years or more

years)
Note:
(1) Individual auditor shall include other individuals or firms whose
name or trade mark or brand is used by such individual, if any.
(2) Consecutive years shall mean all the preceding financial years for
which the individual auditor has been the auditor until there has
been a break by five years or more.
*Illustration explaining rotation in case of audit firm

for which an audit firm has of consecutive years which the firm
been functioning as auditor for which the firm would complete
in the same company [in the may be appointed in in the same

first AGM held after the the same company company in view
commencement of (including of column I and II
provisions of section 139(2)] transitional period)
I II III
10 Years (or more than 3 years 13 years or more
10years)
Note:
(i) Audit Firm shall include other firms whose name or trade mark or
brand is used by the firm or any of its partners.
(ii) Consecutive years shall mean all the preceding financial years for
which the firm has been the auditor until there has been a break by
five years or more.
(4) Where a company has appointed two or more individuals or firms or a
combination thereof as joint auditors, the company may follow the
rotation of auditors in such a manner that both or all of the joint auditors,
as the case may be, do not complete their term in the same year.
As you would have noticed, the provisions relating to
disqualifications and rotation of auditors are meant to ensure that
audit function remains unbiased. These legal provisions also provide
enough safeguards so that auditors can form their opinion in an
independent and highly professional manner without any bias.

4 PROVISIONS RELATING TO AUDIT

COMMITTEE
4.1 Applicability of section 177 i.e. Constitution of Audit
Committee:
Where a company is required to constitute an Audit Committee under section
177, all appointments, including the filling of a casual vacancy of an auditor
under this section shall be made after taking into account the recommendations
of such committee.
all public
companies with a
paid up capital  `
10 crore
Class of
Companies to
constitute Audit
Committee
[including Listed
Public
Companies]
all public companies,
having in aggregate, all public
outstanding loans or companies having
borrowings or turnover  ` 100
debentures or crore
deposits >` 50 crore
Diagram showing class of companies to constitute Audit Committee
As per provisions of Section 177 of Companies Act, audit committee performs

important functions including making recommendation for appointment,
remuneration and terms of appointment of auditor of the company, reviewing
and monitoring auditor’s independence and performance & effectiveness of audit
process, examination of financial statements and auditor’s report thereon.
It is to be remembered that audit committee consists of directors of the company.

It consists of minimum 3 directors with independent directors forming majority.

Besides, audit committee also performs other important functions. Audit
committee helps in ensuring better standards of corporate governance.
It is important to know that in addition to listed public companies, following

classes of companies shall constitute an Audit Committee -
(i) all public companies with a paid up capital of ten crore rupees or more;
(ii) all public companies having turnover of one hundred crore rupees or
more;
(iii) all public companies, having in aggregate, outstanding loans or
borrowings or debentures or deposits exceeding fifty crore rupees or
more.
Explanation: The paid up share capital or turnover or outstanding loans, or
borrowings or debentures or deposits, as the case may be, as existing on the
date of last audited Financial Statements shall be taken into account for the
purposes of this rule.
Therefore, provisions of constitution of audit committee are applicable
only to listed companies and public companies satisfying criteria as stated
above.
Example
XYZ Ltd., a public company having paid up capital of ` 9 crore but having turnover
of ` 150 crore, will be required to constitute an Audit Committee under section
177 because the requirement for constitution of Audit Committee arises if the
company falls into any of the prescribed category.
4.2 Manner and procedure of selection and appointment

of auditors
Rule 3 of CAAR, 2014 prescribes the following manner and procedure of
selection and appointment of auditors-
(1) In case of a company that is required to constitute an Audit Committee
under section 177, the committee, and, in cases where such a committee
is not required to be constituted, the Board, shall take into consideration
the qualifications and experience of the individual or the firm proposed
to be considered for appointment as auditor and whether such

qualifications and experience are commensurate with the size and

It may be noted that while considering the appointment, the Audit
Committee or the Board, as the case may be, shall have regard to any
order or pending proceeding relating to professional matters of conduct
against the proposed auditor before the Institute of Chartered
Accountants of India or any competent authority or any Court.
(2) The Audit Committee or the Board, as the case may be, may call for such
other information from the proposed auditor as it may deem fit.
(3) Subject to the provisions of sub-rule (1), where a company is required to
constitute the Audit Committee, the committee shall recommend the
name of an individual or a firm as auditor to the Board for consideration
and in other cases, the Board shall consider and recommend an individual
or a firm as auditor to the members in the annual general meeting for
appointment.
(4) If the Board agrees with the recommendation of the Audit Committee, it
shall further recommend the appointment of an individual or a firm as
auditor to the members in the annual general meeting.
(5) If the Board disagrees with the recommendation of the Audit Committee,
it shall refer back the recommendation to the committee for
reconsideration citing reasons for such disagreement.
(6) If the Audit Committee, after considering the reasons given by the Board,
decides not to reconsider its original recommendation, the Board shall
record reasons for its disagreement with the committee and send its own
recommendation for consideration of the members in the annual general
meeting; and if the Board agrees with the recommendations of the Audit
Committee, it shall place the matter for consideration by members in the
annual general meeting.
(7) The auditor appointed in the annual general meeting shall hold office
from the conclusion of that meeting till the conclusion of the sixth annual
general meeting, with the meeting wherein such appointment has been
made being counted as the first meeting.
5 AUDITOR’S REMUNERATION
As per section 142 of the Act, the remuneration of the auditor of a company

shall be fixed in its general meeting or in such manner as may be determined

therein. However, board may fix remuneration of the first auditor appointed by
it.
Further, the remuneration, in addition to the fee payable to an auditor, include
the expenses, if any, incurred by the auditor in connection with the audit of the
company and any facility extended to him but does not include any
remuneration paid to him for any other service rendered by him at the request
of the company. Therefore, it has been clarified that the remuneration to
Auditor shall also include any facility provided to him.
6 REMOVAL OF AUDITORS
6.1 Removal of Auditor Before Expiry of Term
According to Section 140(1), the auditor appointed
under section 139 may be removed from his office
before the expiry of his term only by a special
resolution of the company, after obtaining the
previous approval of the Central Government in
that behalf as per Rule 7 of CAAR, 2014-
Fig: Auditor leaving office of the auditor*
(1) The application to the Central Government for removal of auditor shall be
made in Form ADT-2 and shall be accompanied with fees as provided for
this purpose under the Companies (Registration Offices and Fees) Rules,
2014.
(2) The application shall be made to the Central Government within 30 days
of the resolution passed by the Board.
(3) The company shall hold the general meeting within 60 days of receipt of
approval of the Central Government for passing the special resolution.
It is important to note that before taking any action for removal before expiry
of terms, the auditor concerned shall be given a reasonable opportunity of
being heard.
Direction by Tribunal in case Auditor acted in a Fraudulent Manner:

As per sub-section (5) of the section 140, the Tribunal either suo motu or on an
application made to it by the Central Government or by any person concerned, if it

is satisfied that the auditor of a company has, whether directly or indirectly, acted in
a fraudulent manner or abetted or colluded in any fraud by, or in relation to, the
its auditors.
However, if the application is made by the Central Government and the Tribunal
is satisfied that any change of the auditor is required, it shall within fifteen days
of receipt of such application, make an order that he shall not function as an
auditor and the Central Government may appoint another auditor in his place.
It may be noted that an auditor, whether individual or firm, against whom final
order has been passed by the Tribunal under this section shall not be eligible
to be appointed as an auditor of any company for a period of five years from
the date of passing of the order and the auditor shall also be liable for action
under
section 447.
It is hereby clarified that in the case of a firm, the liability shall be of the firm
and that of every partner or partners who acted in a fraudulent manner or
abetted or colluded in any fraud by, or in relation to, the company or its director
or officers.
As you would notice, the provisions of removal of auditor before expiry of
his term are also meant to safeguard auditor’s independence by imposing
strict conditions like prior approval of Central government.
6.2 Appointment of Auditor Other Than Retiring

Auditor
Section 140(4) lays down procedure to appoint an auditor other than retiring
auditor who was removed-
(1) Special notice shall be required for a resolution at an annual general
meeting appointing as auditor a person other than a retiring auditor, or
providing expressly that a retiring auditor shall not be re-appointed,
except where the retiring auditor has completed a consecutive tenure of
five years or as the case may be, ten years, as provided under sub-section
(2) of section 139.
(2) On receipt of notice of such a resolution, the company shall forthwith send
a copy thereof to the retiring auditor.

(3) Where notice is given of such a resolution and the retiring auditor makes
with respect thereto representation in writing to the company (not
exceeding a reasonable length) and requests its notification to members
of the company, the company shall, unless the representation is received
by it too late for it to do so,-
(a) in any notice of the resolution given to members of the company,
state the fact of the representation having been made; and
(b) send a copy of the representation to every member of the company
to whom notice of the meeting is sent, whether before or after the
receipt of the representation by the company. and if a copy of the
representation is not sent as aforesaid because it was received too
late or because of the company's default, the auditor may (without
prejudice to his right to be heard orally) require that the
representation shall be read out at the meeting.
Students may note that if a copy of representation is not sent as aforesaid, a
copy thereof shall be field with the Registrar.
Curtailing right of the auditor regarding circulation of copy of
representation in the case of appointment of auditor other than retiring
auditor under section 140(4) of the companies act, 2013:
If the Tribunal is satisfied on an application either of the company or of any
other aggrieved person that the rights conferred by section 140(4) of the
Companies Act, 2013 are being abused by the auditor, then, the copy of the
representation may not be sent and the representation need not be read out at
the meeting.
7. CEILING ON NUMBER OF AUDITS

It has been mentioned earlier that before appointment is given to any auditor,
the company must obtain a certificate from him to the effect that the
appointment, if made, will not result in an excess holding of company audit by
the auditor concerned over the limit laid down in section 141(3)(g) of the
Companies Act, 2013 which prescribes that a person who is in full time
employment elsewhere or a person or a partner of a firm holding appointment
as its auditor, if such person or partner is at the date of such appointment or
reappointment holding appointment as auditor of more than twenty
companies other than one person companies, dormant companies, small

companies and private companies having paid-up share capital less than ` 100
crore, shall not be eligible for appointment as an Auditor of a Company.
In the case of a firm of auditors, it has been further provided that ‘specified
number of companies’ shall be construed as the number of companies specified
for every partner of the firm who is not in full time employment elsewhere.
This limit of 20 company audits is per person. In the case of an audit firm having
3 partners, the overall ceiling will be 3 × 20 = 60 company audits. Sometimes,
a chartered accountant is a partner in a number of auditing firms. In such a case,
all the firms in which he is partner or proprietor will be together entitled to 20
company audits on his account. Subject to the overall ceiling of company audits,
how they allocate the 20 audits between themselves is their affairs.
CASE STUDY
“ABC & Co.” is an Audit Firm having partners “Mr. A”, “Mr. B” and “Mr. C”,
Chartered Accountants. “Mr. A”, “Mr. B” and “Mr. C” are holding appointment as
an Auditor in 4, 6 and 10 Companies respectively.
(i) Provide the maximum number of Audits remaining in the name of “ABC &
Co.”
(ii) Provide the maximum number of Audits remaining in the name of
individual partner i.e. Mr. A, Mr. B and Mr. C.
(iii) Can ABC & Co. accept the appointment as an auditor in 60 private
companies having paid- up share capital less than ` 100 crore, 2 small
companies and 1 dormant company?
(iv) Would your answer be different, if out of those 60 private companies, 45
companies are having paid-up share capital of ` 110 crore each?
Fact of the Case: In the instant case, Mr. A is holding appointment in 4
companies, whereas Mr. B is having appointment in 6 Companies and Mr. C is
having appointment in 10 Companies. In aggregate all three partners are having
20 audits.
Provisions and Explanations: Section 141(3)(g) of the Companies Act, 2013 states
that the following persons shall not be eligible for appointment as an auditor of a
company i.e. a person who is in full time employment elsewhere; or a person, or a
partner of a firm holding appointment as its auditor, if such person, or partner is at
the date of such appointment, or reappointment holding appointment as auditor of

more than twenty companies other than one person companies, dormant companies,
small companies and private companies having paid-up share capital less than
` 100 crore.
As per section 141(3)(g), this limit of 20 company audits is per person. In the case
of an audit firm having 3 partners, the overall ceiling will be 3 × 20 = 60 company
audits. Sometimes, a chartered accountant is a partner in a number of auditing
firms. In such a case, all the firms in which he is partner or proprietor will be
together entitled to 20 company audits on his account.
Conclusion:
(i) Therefore, ABC & Co. can hold appointment as an auditor of 40 more
companies:
Total Number of Audits available to the Firm Number = 20*3= 60
of Audits already taken by all the partners
In their individual capacity = 4+6+10= 20
Remaining number of Audits available to the Firm = 40
(ii) With reference to above provisions an auditor can hold more appointment
as auditor = ceiling limit as per section 141(3)(g)- already holding
appointments as an auditor. Hence (1)Mr. A can hold: 20 - 4 = 16 more
audits. (2) Mr. B can hold 20-6 = 14 more audits and (3) Mr. C can hold
20-10 = 10 more audits.
(iii) In view of above discussed provisions, ABC & Co. can hold appointment as
an auditor in all the 60 private companies having paid-up share capital less
than ` 100 crore, 2 small companies and 1 dormant company as these are
excluded from the ceiling limit of company audits given under section
(iv) As per fact of the case, ABC & Co. is already having 20 company audits and
they can also accept 40 more company audits. In addition they can also
conduct the audit of one person companies, small companies, dormant
companies and private companies having paid up share capital less than
` 100 crores. In the given case, out of the 60 private companies, ABC & Co.
is offered 45 companies having paid-up share capital of ` 110 crore each.
Therefore, ABC & Co. can also accept the appointment as an auditor for 2
small companies, 1 dormant company, 15 private companies having paid-
up share capital less than ` 100 crore and 40 private companies having

paid-up share capital of ` 110 crore each in addition to above 20 company

audits already holding.
Council General Guidelines, 2008 (Chapter VIII): In exercise of the powers
conferred by clause (ii) of Part II of the Second Schedule to the Chartered
Accountants Act, 1949, the Council of the Institute of Chartered Accountants of
India hereby specifies that a member of the Institute in practice shall be deemed
to be guilty of professional misconduct, if he holds at any time appointment of
more than the “specified number of audit assignments of the companies under
Section 224 and /or Section 226 of the Companies Act, 1956 (now section
141(3)(g) of the Companies Act, 2013).
It may be noted that in the case of a firm of chartered accountants in practice,
the specified number of audit assignments shall be construed as the specified
number of audit assignments for every partner of the firm.
It may also be noted that where any partner of the firm of chartered accountants
in practice is also a partner of any other firm or firms of chartered accountants
in practice, the number of audit assignments which may be taken for all the
firms together in relation to such partner shall not exceed the specified number
of audit assignments in the aggregate.
It is further provided that where any partner of a firm or firms of chartered
accountants in practice accepts one or more audit assignments in his individual
capacity, or in the name of his proprietary firm, the total number of such
assignment which may be accepted by all firms in relation to such chartered
accountant and by him shall not exceed the specified number of audit
assignments in the aggregate.
(1) In computing the specified number of audit assignments-
(a) the number of such assignments, which he or any partner of his firm
has accepted whether singly or in combination with any other
chartered accountant in practice or firm of such chartered
accountants, shall be taken into account.
(b) the number of partners of a firm on the date of acceptance of audit
assignment shall be taken into account.
(c) a chartered accountant in full time employment elsewhere shall not
be taken into account.

(2) A chartered accountant in practice as well as firm of chartered accountants

in practice shall maintain a record of the audit assignments accepted by
him or by the firm of chartered accountants, or by any of the partner of
the firm in his individual name or as a partner of any other firm as far as
possible, in the prescribed manner.
Ceiling on Tax Audit Assignments: The specified number of tax audit

assignments that an auditor, as an individual or as a partner of a firm, can
accept is 60 numbers. ICAI has notified that a chartered accountant in practice
shall be deemed to be guilty of professional misconduct, if he accepts in a
financial year, more than the specified number of tax audit assignments u/s
44AB.
8. POWERS/RIGHTS OF AUDITORS
The auditor has the following powers/rights while conducting an audit:
(a) Right of access to books, etc. – Section 143(1) of the Act provides that
the auditor of a company, at all times, shall have a right of access to the books
of account and vouchers of the company, whether kept at the registered office
of the company or at any other place and he is entitled to require from the
officers of the company such information and explanation as he may consider
necessary for the performance of his duties as auditor.
It may be noted that according to section 2(59) of the Act, the term ‘officer’
includes any director, manager or key managerial personnel or any person in
accordance with whose directions or instructions the Board of Directors or any
one or more of the directors is or are accustomed to act;
The phrase ‘books, accounts and vouchers’ includes all books which have any
bearing, or are likely to have any bearing on the accounts, whether these be the
usual financial books or the statutory or statistical books; memoranda books,
e.g., inventory books, costing records and the like may also be inspected by the
auditor. Similarly the term ‘voucher’ includes all or any of the correspondence
which may in any way serve to vouch for the accuracy of the accounts. Thus, the
right of access is not restricted to books of account alone and it is for the
auditor to determine what record or document is necessary for the purpose of
the audit.

The right of access is not limited to those books and records maintained at the
registered or head office so that in the case of a company with branches, the
right also extends to the branch records, if the auditor considers it necessary to
have access thereto as per Section143(8).
Example
X Ltd. restrains its company auditor from visiting another branch at different
location and having access to the inventory records maintained at that branch
because the branch is already audited by another auditor and the report has been
received. Here, it may be noted that the company auditor has right to visit the
branch, even if the branch accounts are audited by another auditor, if he considers
it necessary to do so for the performance of his duties as auditor.
(b) Right to obtain information and explanation from officers - This
right of the auditor to obtain from the officers of the company such information
and explanations as he may think necessary for the performance of his duties
as auditor is a wide and important power. In the absence of such power, the
auditor would not be able to obtain details of amount collected by the
directors, etc. from any other company, firm or person as well as of any benefits
in kind derived by the directors from the company, which may not be known
from an examination of the books. It is for the auditor to decide the matters in
respect of which information and explanations are required by him. When the
auditor is not provided the information required by him or is denied access to
books, etc., his only remedy would be to report to the members that he could
not obtain all the information and explanations he had required or considered
necessary for the performance of his duties as auditors.
(c) Right to receive notices and to attend general meeting – The auditors of
a company are entitled to attend any general meeting of the company (the right is
not restricted to those at which the accounts audited by them are to be discussed);
also to receive all the notices and other communications relating to the general
meetings, which members are entitled to receive and to be heard at any general
meeting in any part of the business of the meeting which concerns them as auditors.
Section 146 of the Companies Act, 2013 discusses right as well as duty of the
auditor. According to the section 146:
“all notices of, and other communications relating to, any general meeting shall
be forwarded to the auditor of the company, and the auditor shall, unless
otherwise exempted by the company, attend either by himself or through his

authorised representative, who shall also be qualified to be an auditor, any

general meeting and shall have right to be heard at such meeting on any part of
the business which concerns him as the auditor.”
Thus, it is right of the auditor to receive notices and other communications
relating to any general meeting and to be heard at such meeting, relating to
the matter of his concern, however, it is duty of the auditor to attend the same
or through his authorised representative unless otherwise exempted.
(d) Right to report to the members of the company on the accounts
examined by him – The auditor shall make a report to the members of the
company on the accounts examined by him and on every financial statements
which are required by or under this Act to be laid before the company in
general meeting and the report shall after taking into account the provisions of
this Act, the accounting and auditing standards and matters which are required
to be included in the audit report under the provisions of this Act or any rules
made there under or under any order made under this section and to the best
of his information and knowledge, the said accounts, financial statements give
a true and fair view of the state of the company’ s affairs as at the end of its
financial year and profit or loss and cash flow for the year and such other
matters as may be prescribed.
(e) Right to Lien – In terms of the general principles of law, any person
having the lawful possession of somebody else’s property, on which he has
worked, may retain the property for non-payment of his dues on account of the
work done on the property. On this premise, auditor can exercise lien on books
and documents placed at his possession by the client for non payment of fees,
for work done on the books and documents. The Institute of Chartered
Accountants in England and Wales has expressed a similar view on the following
conditions:
(i) Documents retained must belong to the client who owes the money.
(ii) Documents must have come into possession of the auditor on the
authority of the client. They must not have been received through
irregular or illegal means. In case of a company client, they must be
received on the authority of the Board of Directors.
(iii) The auditor can retain the documents only if he has done work on the
documents assigned to him.

(iv) Such of the documents can be retained which are connected with the work
on which fees have not been paid.
Under section 128 of the Act, books of account of a company must be kept at
the registered office. These provisions ordinarily make it impracticable for the
auditor to have possession of the books and documents. The company provides
reasonable facility to auditor for inspection of the books of account by directors
and others authorised to inspect under the Act. Taking an overall view of the
matter, it seems that though legally, auditor may exercise right of lien in cases
of companies, it is mostly impracticable for legal and practicable constraints.
His working papers being his own property, the question of lien, on them does
not arise.
SA 230 issued by ICAI on Audit Documentation (explanatory text, A- 25),
“Standard on Quality Control (SQC) 1, “Quality Control for Firms that Perform
Audits and Reviews of Historical Financial Information, and Other Assurance and
Related Services Engagements”, issued by the Institute, provides that, unless
otherwise specified by law or regulation, audit documentation is the property
of the auditor. He may at his discretion, make portions of, or extracts from, audit
documentation available to clients, provided such disclosure does not
undermine the validity of the work performed, or, in the case of assurance
engagements, the independence of the auditor or of his personnel.”
9. DUTIES OF AUDITORS
Sections 143 of the Companies Act, 2013 specifies the duties of an auditor of
a company in a quite comprehensive manner. It is noteworthy that scope of
duties of an auditor has generally been extending over all these years.
(1) Duty of Auditor to Inquire on certain matters: Under provisions of
section 143(1), it is the duty of auditor to inquire into the following
matters-


shown as deposits;
misleading.
The opinion of the Research Committee of the Institute of Chartered
Accountants of India on section 143(1) is reproduced below:
“The auditor is not required to report on the matters specified in sub-
section (1) unless he has any special comments to make on any of the
items referred to therein. If he is satisfied as a result of the inquiries, he
has no further duty to report that he is so satisfied. In such a case, the
content of the Auditor’s Report will remain exactly the same as the auditor
has to inquire and apply his mind to the information elicited by the
enquiry, in deciding whether or not any reference needs to be made in
his report. In our opinion, it is in this light that
the auditor has to consider his duties under section 143(1).”
Therefore, it could be said that the auditor should make a report to the
members in case he finds answer to any of these matters in adverse.
(2) Duty to report:
Under provisions of Section 143(2), the auditor shall make a report to the
members of the company on the accounts examined by him and on every
financial statements which are required by or under this Act to be laid
before the company in general meeting and the report shall after taking
into account the provisions of this Act, the accounting and auditing
standards and matters which are required to be included in the audit

report under the provisions of this Act or any rules made thereunder or
under any order made under sub-section (11).
Further, auditor has to report whether to best of his information and
view of the state of the company’s affairs as at the end of its financial
year and profit or loss and cash flow for the year and following
matters as prescribed under relevant rules:-
(a) whether the company has disclosed the impact, if any, of pending
litigations on its financial position in its financial statement;
(b) whether the company has made provision, as required under any
law or accounting standards, for material foreseeable losses, if any,
on long term contracts including derivative contracts;
(c) whether there has been any delay in transferring amounts, required
to be transferred, to the Investor Education and Protection Fund by
the company.
As per section 143(3), the auditor’s report shall also state–
(a) whether he has sought and obtained all the information and
explanations which to the best of his knowledge and belief were
necessary for the purpose of his audit and if not, the details thereof
and the effect of such information on the financial statements;
(b) whether, in his opinion, proper books of account as required by law have
been kept by the company so far as appears from his examination of
those books and proper returns adequate for the purposes of his audit
have been received from branches not visited by him;
(c) whether the report on the accounts of any branch office of the company
audited under sub-section (8) by a person other than the company’s
auditors has been sent to him under the proviso to that sub-section and
the manner in which he has dealt with it in preparing his report;
(d) whether the company’s balance sheet and profit and loss account dealt
with in the report are in agreement with the books of account and
returns;
(e) whether, in his opinion, the financial statements comply with the
accounting standards;

(f) the observations or comments of the auditors on financial transactions

or matters which have any adverse effect on the functioning of the
company;
(g) whether any director is disqualified from being appointed as a director
under sub- section (2) of the section 164;
(h) any qualification, reservation or adverse remark relating to the
maintenance of accounts and other matters connected therewith;
(i) whether the company has adequate internal financial controls with
reference to financial statements in place and the operating
effectiveness of such controls;
However, it may be noted that the reporting requirement on
adequacy of internal financial controls (IFCs) with reference to
financial statements shall not be applicable to a private company
which is a–
(iii) Company having turnover less than ` 50 crore as per latest
audited financial statement and having aggregate
borrowings from banks or financial institutions or any body
corporate at any point of time during the financial year less
than ` 25 crore.
(j) such other matters as may be prescribed. Rule 11 of the Companies
(Audit and Auditors) Rules, 2014 prescribes the other matters to be
included in auditor’s report. The auditor’s report shall also include
their views and comments on the following matters, namely:-
(i) whether the company has disclosed the impact, if any, of
pending litigations on its financial position in its financial
statement;
(ii) whether the company has made provision, as required under
any law or accounting standards, for material foreseeable
losses, if any, on long term contracts including derivative
contracts;

(iii) whether there has been any delay in transferring amounts,

required to be transferred, to the Investor Education and
Protection Fund by the company.
One Person Company

Private
Exemption from Company Small Company
reporting on
adequacy of IFCs Having turnover
< ` 50 crore and
Borrowings < ` 25 crore
[Notes: (1) Students may note that the auditor is also required to
report on certain additional matters specified under CARO, 2016
which is discussed later under Para 10 Reporting under Companies
(Auditor’s Report) Order, 2016.
(2) Students are also required to refer Guidance note on Reporting
under section 143(3)(f) and (h) of the Companies Act, 2013.]
Further, in case of government companies and companies controlled by
government, the Comptroller and auditor general of India shall direct the
auditor of such companies the manner in which accounts of such
companies are required to be audited. The copy of such report shall be
submitted to the Comptroller and auditor general of India. It is to be
further noted that Comptroller and auditor general of India has a right to
conduct supplementary audit of financial statements of such companies
within 60 days of receipt of audit report.
Para 10 Reporting under Companies (Auditor’s Report) Order, 2016
which is discussed subsequently]
(3) Duty to Sign the Audit Report: As per section 145 of the Companies Act,
2013, the person appointed as an auditor of the company shall sign the
auditor's report or sign or certify any other document of the company, in
accordance with the provisions of section 141(2).


general meeting.
(4) Duty to comply with Auditing Standards: As per section 143(9) of the
Companies Act, 2013, every auditor shall comply with the auditing
standards. Further, as per section 143(10) of the Act, the Central
Government may prescribe the standards of auditing as recommended by
the Institute of Chartered Accountants of India, in consultation with and
after examination of the recommendations made by the National
Financial Reporting Authority.
(5) Duty to report on frauds:
A. Reporting to the Central Government- As per section 143(12) of the
Companies Act, 2013 read with Rule 13 of the Companies (Audit and
Auditors) Rules, 2014, if an auditor of a company in the course of the
performance of his duties as auditor, has reason to believe that an offence
of fraud, which involves or is expected to involve individually an amount
of ` 1 crore or above, is being or has been committed in the company by
its officers or employees, the auditor shall report the matter to the Central
Government within such time and in such manner as prescribed.
B. Reporting to the Audit Committee or Board- In case of a fraud involving
lesser than the specified amount [i.e. less than ` 1 crore], the auditor shall report
the matter to the audit committee constituted under section 177 or to the Board
in other cases within such time and in such manner as prescribed.
C. Disclosure in the Board's Report: The companies, whose auditors have
reported frauds under this sub-section (12) to the audit committee or the
Board, but not reported to the Central Government, shall disclose the
details about such frauds in the Board's report in such manner as
prescribed.
Sub-section (13) of section 143 of the Companies Act, 2013 safeguards
the act of fraud reporting by the auditor if it is done in good faith. It
states that no duty to which an auditor of a company may be subject to
shall be regarded as having been contravened by reason of his reporting
the matter above if it is done in good faith.
It is very important to note that the provisions regarding fraud reporting

shall also apply, mutatis mutandis, to a cost auditor and a secretarial

auditor during the performance of his duties under section 148 and
section 204 respectively. If any auditor, cost accountant or company
secretary in practice do not comply with the provisions of sub-section
(12) of section 143, he shall be punishable with fine which shall not be
less than ` 1 lakh but which may extend to ` 25 lakh.
Companies (Auditor’s Report) Order, 2016 [CARO, 2016], whether any
fraud by the company or any fraud on the Company by its officers or
employees has been noticed or reported during the year. If yes, the nature
and the amount involved is to be indicated.
Para 10 Reporting under Companies (Auditor’s Report) Order, 2016]
Example: The head accountant of a company entered fake invoices of credit
purchases in the books of account aggregate of ` 50 lakh and cleared all the
payments to such bogus creditor. Here, the auditor of the company is
required to report the fraudulent activity to the Board or Audit Committee
(as the case may be) within 2 days of his knowledge of fraud. Further, the
company is also required to disclose the same in Board’s Report.
It may be noted that the auditor need not to report the central government
as the amount of fraud involved is less than ` 1 crore, however, reporting
under CARO, 2016 is required.
(6) Duty to report on any other matter specified by Central Government:
The Central Government may, in consultation with the National Financial
Reporting Authority (NFRA), by general or special order, direct, in respect
of such class or description of companies, as may be specified in the order,
that the auditor's report shall also include a statement on such matters
as may be specified therein.
However, as per the notification dated 29.03.2016, till the time NFRA is
constituted, the Central Government may hold consultation required
under this sub-section with the Committee chaired by an officer of the
rank of Joint Secretary or equivalent in the MCA and the Committee shall
have the representatives from the ICAI and Industry Chambers and also
special invitees from the National Advisory Committee on Accounting
Standards (NACAS) and the office of the C&AG.

[Note: Students may note that Companies (Auditor’s Report) Order,

2016 has been notified in this perspective which is discussed later
under Para 10 Reporting under Companies (Auditor’s Report) Order,
2016]
(7) Duties and powers of the company’s auditor with reference to the
audit of the branch and the branch auditor are discussed separately
in the chapter under heading 13 branch audit.
(8) Duty to state the reason for qualification or negative report: As per
section 143(4), where any of the matters required to be included in the
audit report is answered in the negative or with a qualification, the report
shall state the reasons there for.
10. REPORTING UNDER COMPANIES (AUDITOR’S

REPORT) ORDER, 2016 [CARO, 2016]
The Central Government, after consultation with the committee constituted
under proviso to section 143(11) of the Companies Act, 2013, and in
supersession of the Companies (Auditor's Report) Order, 2015 dated the 10th
April, 2015, has issued the Companies (Auditor’s Report) Order, 2016, (CARO,
2016) under section 143(11) of the Companies Act, 2013, dated 29th March,
2016. The requirements of the Order are supplemental to the existing provisions
of section 143 of the Act regarding the auditor’s report.
The Order is not intended to limit the duties and responsibilities of auditors but
only requires a statement to be included in the audit report in respect of the
matters specified therein.
Applicability of the Order: The CARO, 2016 is an additional reporting
requirement Order. The order applies to every company including a foreign
company as defined in clause (42) of section 2 of the Companies Act, 2013.
However, the Order specifically exempts the following class of companies-
(i) a banking company as defined in clause (c) of section 5 of the Banking
Regulation Act, 1949;
(ii) an insurance company as defined under the Insurance Act,1938;
(iii) a company licensed to operate under section 8 of the Companies Act;

(iv) a One Person Company as defined under clause (62) of section 2 of the
Companies Act;
(v) a small company as defined under clause (85) of section 2 of the
Companies Act; and
(vi) a private limited company, not being a subsidiary or holding company of
a public company, having a paid up capital and reserves and surplus not
more than ` 1 crore as on the balance sheet date and which does not have
total borrowings exceeding ` 1 crore from any bank or financial institution
at any point of time during the financial year and which does not have a
total revenue as disclosed in Scheduled III to the Companies Act, 2013
(including revenue from discontinuing operations) exceeding ` 10 crore
during the financial year as per the financial statements.
It may be noted that the Order shall not be applicable to the auditor’s report
on consolidated financial statements.
Banking company
Private limited
company subject
Insurance
to fulfilment of
company
specified
conditions
Exempted
Class of
Companies
Company licensed
Small Company to operate under
section 8 of the
Companies Act
One Person
Company
EXAMPLES
Ex. 1: ‘Educating Child’ is a limited company registered under section 8 of the

In the given case, ‘Educating Child’ is licensed to operate under section 8 of the
Companies Act, 2013. Therefore, CARO, 2016 shall not be applicable to
‘Educating Child’ accordingly.
Ex. 2: Ashu Pvt. Ltd. has fully paid capital and reserves of ` 50 lakh. During the
year, the company had borrowed ` 70 lakh each from a bank and a financial
institution independently. It has the turnover of ` 900 lakh.
In the given case of Ashu Pvt. Ltd., it has paid capital and reserves of ` 50 lakh
i.e. less than ` 1 crore, turnover of ` 9 crore i.e. less than ` 10 crore. However,
it has maximum outstanding borrowings of ` 1.40 crore (` 70 lakh + ` 70 lakh)
collectively from bank and financial institution.
Therefore, it fails to fulfill the condition relating to borrowings. Thus, CARO,
2016 shall be applicable to Ashu Pvt. Ltd. accordingly.
Matters to be included in the Auditor’s Report: Paragraph 3 of the Order
requires the auditor to include a statement in the auditor’s report on the
following matters, namely-
(i) (a) whether the company is maintaining proper records showing full
particulars, including quantitative details and situation of fixed
assets;
(b) whether these fixed assets have been physically verified by the
management at reasonable intervals; whether any material
discrepancies were noticed on such verification and if so, whether
the same have been properly dealt with in the books of account;
(c) whether the title deeds of immovable properties are held in the
name of the company. If not, provide the details thereof;
(ii) whether physical verification of inventory has been conducted at
reasonable intervals by the management and whether any material
discrepancies were noticed and if so, whether they have been properly
(iii) whether the company has granted any loans, secured or unsecured to
companies, firms, Limited Liability Partnerships or other parties covered
in the register maintained under section 189 of the Companies Act, 2013.
If so,
(a) whether the terms and conditions of the grant of such loans are not

prejudicial to the company’s interest;

(b) whether the schedule of repayment of principal and payment of
interest has been stipulated and whether the repayments or receipts
are regular;
(c) if the amount is overdue, state the total amount overdue for more
than ninety days, and whether reasonable steps have been taken by
the company for recovery of the principal and interest;
(iv) in respect of loans, investments, guarantees, and security whether
provisions of section 185 and 186 of the Companies Act, 2013 have been
complied with. If not, provide the details thereof.
(v) in case the company has accepted deposits, whether the directives issued
by the Reserve Bank of India and the provisions of sections 73 to 76 or
any other relevant provisions of the Companies Act, 2013 and the rules
framed there under, where applicable, have been complied with? If not,
the nature of such contraventions be stated; If an order has been passed
by Company Law Board or National Company Law Tribunal or Reserve
Bank of India or any court or any other tribunal, whether the same has
been complied with or not?
(vi) where maintenance of cost records has been specified by the Central
Government under sub-section (1) of section 148 of the Companies Act,
2013 and whether such accounts and records have been so made and
maintained.
(vii) (a) whether the company is regular in depositing undisputed statutory
dues including provident fund, employees' state insurance, income-
tax, sales-tax, service tax, duty of customs, duty of excise, value
added tax, cess and any other statutory dues with the appropriate
authorities and if not, the extent of the arrears of outstanding
statutory dues as at the last day of the financial year concerned for
a period of more than six months from the date they became
payable, shall be indicated;
(b) where dues of income tax or sales tax or service tax or duty of
customs or duty of excise or value added tax have not been
deposited on account of any dispute, then the amounts involved
and the forum where dispute is pending shall be mentioned. (A

mere representation to the concerned Department shall not

constitute a dispute).
(viii) whether the company has defaulted in repayment of loans or borrowing
to a financial institution, bank, Government or dues to debenture holders?
If yes, the period and the amount of default to be reported (in case of
defaults to banks, financial institutions, and Government, lender wise
details to be provided).
(ix) whether moneys raised by way of initial public offer or further public offer
(including debt instruments) and term loans were applied for the
purposes for which those are raised. If not, the details together with delays
or default and subsequent rectification, if any, as may be applicable, be
reported;
(x) whether any fraud by the company or any fraud on the Company by its
officers or employees has been noticed or reported during the year; If yes,
the nature and the amount involved is to be indicated;
(xi) whether managerial remuneration has been paid or provided in
accordance with the requisite approvals mandated by the provisions of
section 197 read with Schedule V to the Companies Act, 2013? If not, state
the amount involved and steps taken by the company for securing refund
of the same;
(xii) whether the Nidhi Company has complied with the Net Owned Funds to
Deposits in the ratio of 1:20 to meet out the liability and whether the Nidhi
Company is maintaining ten per cent unencumbered term deposits as
specified in the Nidhi Rules, 2014 to meet out the liability;
(xiii) whether all transactions with the related parties are in compliance with
sections 177 and 188 of Companies Act, 2013 where applicable and the
details have been disclosed in the Financial Statements etc., as required
by the applicable accounting standards;
(xiv) whether the company has made any preferential allotment or private
placement of shares or fully or partly convertible debentures during the
year under review and if so, as to whether the requirement of section 42
of the Companies Act, 2013 have been complied with and the amount
raised have been used for the purposes for which the funds were raised.
If not, provide the details in respect of the amount involved and nature of

non-compliance;
(xv) whether the company has entered into any non-cash transactions with
directors or persons connected with him and if so, whether the provisions
of section 192 of Companies Act, 2013 have been complied with;
(xvi) whether the company is required to be registered under section 45-IA of
the Reserve Bank of India Act, 1934 and if so, whether the registration has
been obtained.
Reasons to be Stated for Unfavourable or Qualified Answers: Where the
answer to any of the questions referred to in paragraph 3 of the Order is
unfavourable or qualified, in the auditor's report, the auditor shall also state the
basis for such unfavourable or qualified answer, as the case may be.
Further, where the auditor is unable to express any opinion on any specified
matter, his report shall indicate such fact together with the reasons why it is not
possible for him to give his opinion on the same.
Example: The company has dispensed with the practice of taking inventory of
their inventories at the year-end as in their opinion the exercise is redundant,
time consuming and intrusion to normal functioning of the operations. Explain
reporting requirement under CARO, 2016.
Reporting for Physical Verification of Inventory: Clause (ii) of Para 3 of
CARO, 2016, requires the auditor to report whether physical verification of
inventory has been conducted at reasonable intervals by the management and
whether any material discrepancies were noticed and if so, whether they have
been properly dealt with in the books of account.
The physical verification of inventory is the responsibility of the management
of the company which should verify all material items at least once in a year
and more often in appropriate cases.
In the given case, the above requirement of physical verification of inventory by
the management has not been taken place and therefore the auditor should point
out the same under CARO, 2016. He may consider the impact on financial
statement and report accordingly.

11. DISCLOSURE IN THE AUDITOR’S REPORT

The following paragraphs deal with the manner of qualification and the
manner of disclosure, if any, to be made in the auditor’s report.
AS-1 – Disclosure of Accounting Policies

In the case of a company, members should qualify their audit reports in case –
(a) accounting policies required to be disclosed under Schedule III or any
other provisions of the Companies Act, 2013 have not been disclosed, or
(b) accounts have not been prepared on accrual basis, or
(c) the fundamental accounting assumption of going concern has not been
followed and this fact has not been disclosed in the financial statements,
or
(d) proper disclosures regarding changes in the accounting policies have not
been made.
Where a company has been given a specific exemption regarding any of the
matters stated above but the fact of such exemption has not been adequately
disclosed in the accounts, the member should mention the fact of exemption in
his audit report without necessarily making it a subject matter of audit
qualification.
In view of the above, the auditor will have to consider different circumstances
whether the audit report has to be qualified or only disclosures have to be
given.
In the case of enterprises not governed by the Companies Act, the member
should examine the relevant statute and make suitable qualification in his audit
report in case adequate disclosures regarding accounting policies have not been
made as per the statutory requirements. Similarly, the member should examine if
the fundamental accounting assumptions have been followed in preparing the
financial statements or not. In appropriate cases, he should consider whether,
keeping in view the requirements of the applicable laws, a qualification in his
report is necessary.
In the event of non-compliance by enterprises not governed by the Companies
Act, in situations where the relevant statute does not require such disclosures
to be made, the member should make adequate disclosure in his audit report

without necessarily making it a subject matter of audit qualification.

In making a qualification / disclosure in the audit report, the auditor should
consider the materiality of the relevant item. Thus, the auditor need not make
qualification / disclosure in respect of items which, in his judgement, are not
material.
A disclosure, which is not a subject matter of audit qualification, should be made
in the auditor’s report in a manner that it is clear to the reader that the
disclosure does not constitute an audit qualification. The paragraph containing
the auditor’s opinion on true and fair view should not include a reference to the
paragraph containing the aforesaid disclosure.
12. JOINT AUDIT

The practice of appointing Chartered Accountants as joint auditors is quite
widespread in big companies and corporations. Joint audit basically implies
pooling together the resources and expertise of more than one firm of auditors
to render an expert job in a given time period which may be difficult to
accomplish acting individually. It essentially involves sharing of the total work.
This is by itself a great advantage.
(vi) Displacement of the auditor of the company taken over in a take - over
often obviated.
(vii) In respect of multi-national companies, the work can be spread using the
expertise of the local firms which are in a better position to deal with
detailed work and the local laws and regulations.

(x) A sense of healthy competition towards a better performance.

The general disadvantages may be the following:
(i) The fees being shared.
(ii) Psychological problem where firms of different standing are associated in
the joint audit.
(iii) General superiority complexes of some auditors.
(iv) Problems of co-ordination of the work.
(v) Areas of work of common concern being neglected.
(vi) Uncertainty about the liability for the work done.
The Institute of Chartered Accountants of India has issued Standard on Auditing
(SA) 299 (Revised), “Joint Audit of Financial Statements” which lays down the
principles for effective conduct of joint audit to achieve the overall objectives
of the auditor as laid down in SA 200 “Overall Objectives of the Independent
Auditor and the conduct of an audit in accordance with Standards on Auditing”.
This Standard deals with the special considerations in carrying out audit by joint
auditors. It requires that–
(i) the engagement partner and other key members of the engagement team
from each of the joint auditors should be involved in planning the audit.
(ii) the joint auditors should jointly establish an overall audit strategy which
sets the scope, timing and direction of the audit, and also guides the
development of the audit plan.
(iii) before the commencement of the audit, the joint auditors should discuss
auditors should:
are significant


(iv) each of the joint auditors should consider and assess the risks of material
misstatement and communicate to other joint auditors.
(v) the joint auditors should discuss and document the nature, timing, and
the extent of the audit procedures for (I) common and (II) specific allotted
areas of audit to be performed.
(vi) the joint auditors should obtain common engagement letter and common
management representation letter.
(vii) the work allocation document should be signed by all the joint auditors
and communicated to those charged with governance.
It further states that, in respect of audit work divided among the joint auditors,
each joint auditor shall be responsible only for the work allocated to such joint
auditor including proper execution of the audit procedures. On the other hand,
all the joint auditors shall be jointly and severally responsible for:
(i) the audit work which is not divided among the joint auditors and is carried
out by all joint auditors;
(ii) decisions taken by all the joint auditors under audit planning in respect of
common audit areas;
(iii) matters which are brought to the notice of the joint auditors by any one of
them and there is an agreement among the joint auditors on such matters;
(iv) examining that the financial statements of the entity comply with the
requirements of the relevant statutes;
(v) presentation and disclosure of the financial statements as required by the
applicable financial reporting framework;
(vi) ensuring that the audit report complies with the requirements of the
relevant statutes, applicable Standards on Auditing and other relevant
pronouncements issued by ICAI.
In case a joint auditor comes across matters which are relevant to the areas of
responsibility of other joint auditors and which deserve their attention, or which
require disclosure or require discussion with, or application of judgment by other
joint auditors, the said joint auditor shall communicate the same to all the other

joint auditors in writing prior to the completion of the audit.

It may be noted that the joint auditors are required to issue common audit report.
However, where the joint auditors are in disagreement with regard to the opinion
or any matters to be covered by the audit report, they shall express their opinion
in a separate audit report. In such circumstances, the audit report(s) issued by the
joint auditor(s) shall make a reference to each other’s audit report(s).
[Note: Student may refer SA 299 (revised) “Joint Audit of Financial Statements”
reproduced in “Auditing Pronouncements” for comprehensive knowledge.]
13. AUDIT OF BRANCH OFFICE ACCOUNTS

As per section 128(1) of the Companies Act, 2013, every company shall prepare
and keep at its registered office books of account and other relevant books
and papers and financial statement for every financial year which give a true
and fair view of the state of the affairs of the company, including that of its
branch office or offices, if any, and explain the transactions effected both at the
registered office and its branches and such books shall be kept on accrual basis
and according to the double entry system of accounting.
It may be noted that all or any of the books of account aforesaid and other
relevant papers may be kept at such other place in India as the Board of
Directors may decide and where such a decision is taken, the company shall,
within 7 days thereof, file with the Registrar a notice in writing giving the full
address of that other place.
Students may also note that the company may keep such books of account or
other relevant papers in electronic mode in such manner as may be prescribed.
Sub-section (2) provides that where a company has a branch office in India or
outside India, it shall be deemed to have complied with the provisions of sub-
section (1), if proper books of account relating to the transactions effected at
the branch office are kept at that office and proper summarised returns
periodically are sent by the branch office to the company at its registered office
or the other place referred in (1).
Further, sub-section (8) of section 143 of the Companies Act, 2013, prescribes
the duties and powers of the company’s auditor with reference to the audit of
the branch and the branch auditor. Where a company has a branch office, the
accounts of that office shall be audited either by the auditor appointed for the

company (herein referred to as the company's auditor) under this Act or by any
other person qualified for appointment as an auditor of the company under this
Act and appointed as such under section 139, or where the branch office is
situated in a country outside India, the accounts of the branch office shall be
audited either by the company's auditor or by an accountant or by any other
person duly qualified to act as an auditor of the accounts of the branch office in
accordance with the laws of that country and the duties and powers of the
company' s auditor with reference to the audit of the branch and the branch
auditor, if any, shall be such as may be prescribed:
It may be noted that the branch auditor shall prepare a report on the accounts
of the branch examined by him and send it to the auditor of the company who
shall deal with it in his report in such manner as he considers necessary.
reporting of fraud by the auditor shall also extend to such branch auditor to the
extent it relates to the concerned branch.
Using the Work of another Auditor: When the accounts of the branch are
audited by a person other than the company’s auditor, there is need for a clear
understanding of the role of such auditor and the company’s auditor in relation
to the audit of the accounts of the branch and the audit of the company as a
whole; also, there is great necessity for a proper rapport between these two
auditors for the purpose of an effective audit. In recognition of these needs, the
Council of the Institute of Chartered Accountants of India has dealt with these
issues in SA 600, “Using the Work of another Auditor”. It makes clear that in
certain situations, the statute governing the entity may confer a right on the
principal auditor to visit a component and examine the books of account and
other records of the said component, if he thinks it necessary to do so. Where
another auditor has been appointed for the component, the principal auditor
would normally be entitled to rely upon the work of such auditor unless there
are special circumstances to make it essential for him to visit the component
and/or to examine the books of account and other records of the said
component. Further, it requires that the principal auditor should perform
procedures to obtain sufficient appropriate audit evidence, that the work of the
other auditor is adequate for the principal auditor's purposes, in the context of
the specific assignment. When using the work of another auditor, the principal
auditor should ordinarily perform the following procedures:

(a) advise the other auditor of the use that is to be made of the other
auditor's work and report and make sufficient arrangements for co-
ordination of their efforts at the planning stage of the audit. The principal
auditor would inform the other auditor of matters such as are as requiring
special consideration, procedures for the identification of inter -
component transactions that may require disclosure and the time-table
for completion of audit; and
(b) advise the other auditor of the significant accounting, auditing and
reporting requirements and obtain representation as to compliance with
them.
The principal auditor might discuss with the other auditor the audit procedures
applied or review a written summary of the other auditor’s procedures and
findings which may be in the form of a completed questionnaire or check-list.
The principal auditor may also wish to visit the other auditor. The nature, timing
and extent of procedures will depend on the circumstances of the engagement
and the principal auditor's knowledge of the professional competence of the
other auditor. This knowledge may have been enhanced from the review of the
previous audit work of the other auditor.
14. COST AUDIT

Cost Audit is an audit process for verifying the cost of manufacture or
production of any article, on the basis of accounts as regards utilisation of
material or labour or other items of costs, maintained by the company.
It is covered by Section 148 of the Companies Act, 2013. The audit conducted
under this section shall be in addition to the audit conducted under section
143.
As per section 148 the Central Government may by order specify audit of items
of cost in respect of certain companies.
Further, the Central Government may, by order, in respect of such class of
companies engaged in the production of such goods or providing such services
as may be prescribed, direct that particulars relating to the utilisation of
material or labour or to other items of cost as may be prescribed shall also be
included in the books of account kept by that c lass of companies.
In this regard, the Central Government has notified the Companies (Cost

Records and Audit) Rules, 2014 which prescribes the classes of companies
required to include cost records in their books of account, applicability of cost
audit, maintenance of records etc.
Applicability for Maintenance of Cost Records: Rule 3 of the Companies (Cost
Records and Audit) Rules, 2014 provides the classes of companies, engaged in
the production of goods or providing services, having an overall turnover from
all its products and services of ` 35 crore or more during the immediately
preceding financial year, required to include cost records in their books of
account. These companies include Foreign Companies defined in sub-section
(42) of section 2 of the Act, but exclude a company classified as a Micro
enterprise or a Small enterprise including as per the turnover criteria provided
under Micro, Small and Medium Enterprises Development Act, 2006. The said
rule has divided the list of companies into (A) Regulated sectors and (B) Non-
regulated sectors.
Maintenance of Cost Records: As per Rule 5 of the Companies (Cost Records
and Audit) Rules, 2014, every company under these rules including all units and
branches thereof, shall, in respect of each of its financial year, is required to
maintain cost records in Form CRA-1. The cost records shall be maintained on
regular basis in such manner as to facilitate calculation of per unit cost of
production or cost of operations, cost of sales and margin for each of its
products and activities for every financial year on monthly or quarterly or half-
yearly or annual basis.
Additionally, as per clause (vi) to Paragraph 3 of the CARO, 2016, the auditor
has to report whether maintenance of cost records has been specified by the
Central Government under section 148(1) of the Companies Act, 2013 and
whether such accounts and records have been so made and maintained.
Applicability of Cost Audit: Rule 4 of the Companies (Cost Records and Audit)
Rules, 2014 states the provisions related to the applicability of cost audit
depending on the turnover of the company as follows-
(i) Classes of companies specified under item (A) “Regulated Sectors” are
required to get its cost records audited if the overall annual turnover of
the company from all its products and services during the immediately

(ii) Classes of companies specified under item (B) “Non-Regulated Sectors”

are required to get its cost records audited if the overall annual turnover
of the company from all its products and services during the immediately
Who can be Cost Auditor: The audit shall be conducted by a Cost Accountant
who shall be appointed by the Board of such remuneration as may be
determined by the members in such manner as may be prescribed.
It may be noted that no person appointed under section 139 as an auditor of
the company shall be appointed for conducting the audit of cost records.
It may also be noted that the auditor conducting the cost audit shall comply
with the cost auditing standards ("cost auditing standards" mean such
standards as are issued by the Institute of Cost Accountants of India, constituted
under the Cost and Works Accountants Act, 1959, with the approval of the
Central Government).
Appointment of Cost Auditor: Rule 6 of the Companies (Cost Records and
Audit) Rules, 2014 requires the companies prescribed under the said Rules to
appoint an Auditor within 180 days of the commencement of every financial
year. However, before such appointment is made, the written consent of the
cost auditor to such appointment and a certificate from him or it shall be
obtained.
The certificate to be obtained from the cost auditor shall certify that the-
(a) the individual or the firm, as the case may be, is eligible for appointment
and is not disqualified for appointment under the Companies Act, 2013,
the Cost and Works Accountants Act, 1959 and the rules or regulations
made thereunder;
(b) the individual or the firm, as the case may be, satisfies the criteria provided
in section 141 of the Companies Act, 2013 so far as may be applicable;
(c) the proposed appointment is within the limits laid down by or under the
authority of the Companies Act, 2013; and
(d) the list of proceedings against the cost auditor or audit firm or any partner
of the audit firm pending with respect to professional matters of conduct,
as disclosed in the certificate, is true and correct.

Every referred company shall inform the cost auditor concerned of his or its
appointment as such and file a notice of such appointment with the Central
Government within a period of 30 days of the Board meeting in which such
appointment is made or within a period of 180 days of the commencement of
the financial year, whichever is earlier, through electronic mode, in Form CRA-
2, along with the fee as specified in Companies (Registration Offices and Fees)
Rules, 2014.
The cost auditor appointed as such shall continue in such capacity till the expiry
of 180 days from the closure of the financial year or till he submits the cost
audit report, for the financial year for which he has been appointed.
Removal of Cost Auditor: The cost auditor may be removed from his office before
the expiry of his term, through a board resolution after giving a reasonable
opportunity of being heard to the cost auditor and recording the reasons for such
removal in writing.
It may be noted that the Form CRA-2 to be filed with the Central Government
for intimating appointment of another cost auditor shall enclose the relevant
Board Resolution to the effect.
It may further be noted that the above provisions shall not prejudice the right
of the cost auditor to resign from such office of the company.
Casual Vacancy in the Office of a Cost Auditor: Any casual vacancy in the
office of a Cost Auditor, whether due to resignation, death or removal, shall be
filled by the Board of Directors within 30 days of occurrence of such vacancy
and the company shall inform the central government in Form CRA-2 within 30
days of such appointment of cost auditor.
Remuneration of Cost Auditor: As per rule 14 of the Companies (Audit and
Auditors) Rules, 2014-
(a) in the case of companies which are required to constitute an audit
committee-
(i) the Board shall appoint an individual, who is a cost accountant, or a
firm of cost accountants in practice, as cost auditor on the
recommendations of the Audit committee, which shall also
recommend remuneration for such cost auditor;

(ii) the remuneration recommended by the Audit Committee under (i)

shall be considered and approved by the Board of Directors and
ratified subsequently by the shareholders;
(b) in the case of other companies which are not required to constitute an
audit committee, the Board shall appoint an individual who is a cost
accountant or a firm of cost accountants in practice as cost auditor and
the remuneration of such cost auditor shall be ratified by shareholders
subsequently.
Qualification, Disqualification, Rights, Duties and Obligations of Cost
Auditor: The qualifications, disqualifications, rights, duties and obligations
applicable to auditors under this Chapter shall, so far as may be applicable,
apply to a cost auditor appointed under this section and it shall be the duty of
the company to give all assistance and facilities to the cost auditor appointed
under this section for auditing the cost records of the company.
Submission of Cost Audit Report:

(i) To the Board of Directors of the Company- The cost auditor shall submit
the cost audit report along with his reservations or qualifications or observations or
suggestions, if any, in Form CRA-3. He shall forward his report to the Board of
Directors of the company within a period of 180 days from the closure of the financial
year to which the report relates and the Board of Directors shall consider and
examine such report particularly any reservation or qualification contained therein.
(ii) To the Central Government- The company shall within 30 days from
the date of receipt of a copy of the cost audit report prepared (in pursuance of
a direction issued by Central Government) furnish the Central Government with
such report along with full information and explanation on every reservation or
qualification contained therein in Form CRA-4 in Extensible Business Reporting
Language (XBRL) format in the manner as specified in the Companies (Filing of
Documents and Forms in Extensible Business Reporting language) Rules, 2015
along with fees specified in the Companies (Registration Offices and Fees)
Rules, 2014.
Provided that the companies which have got extension of time of holding AGM
under section 96 (1) of the Companies Act, 2013, may file form CRA-4 within
resultant extended period of filing financial statements under section 137 of the

If, after considering the cost audit report and the, information and explanation
furnished by the company as above, the Central Government is of the opinion,
that any further information or explanation is necessary, it may call for such
further information and explanation and the company shall furnish the same
within such time as may be specified by that Government.
Duty to Report on Fraud: The provisions of section 143(12) of the Companies
Act, 2013 and the relevant rules on duty to report on fraud shall apply mutatis
mutandis to a cost auditor during performance of his functions under section
148 of the Act and these rules.
Cost Audit Rules Not to Apply in Certain Cases: The requirement for cost audit
under these rules shall not be applicable to a company which is covered under Rule
3, and,
(i) whose revenue from exports, in foreign exchange, exceeds 75% of its total
revenue; or
(ii) which is operating from a special economic zone.
(iii) which is engaged in generation of electricity for captive consumption
through Captive Generating Plant.
Penal Provisions in Case of Default: If any default is made in complying with
the provisions of this section,
(a) the company and every officer of the company who is in default shall be
punishable in the manner as provided in sub-section (1) of section 147;
(b) the cost auditor of the company who is in default shall be punishable in
the manner as provided in sub-sections (2) to (4) of section 147.
15. PUNISHMENT FOR NON-COMPLIANCE

contravention:
(1) If any of the provisions of sections 139 to 146 (both inclusive) is
contravened, the company shall be punishable with fine which shall not
be less than twenty-five thousand rupees but which may extend to five
lakh rupees and every officer of the company who is in default shall be
punishable with imprisonment for a term which may extend to one year

or with fine which shall not be less than ten thousand rupees but which
may extend to one lakh rupees, or with both.
(2) If an auditor of a company contravenes any of the provisions of section
139 section 143, section 144 or section 145, the auditor shall be
punishable with fine which shall not be less than twenty-five thousand
rupees but which may extend to five lakh rupees or four times the
It may be noted that if an auditor has contravened such provisions
knowingly or willfully with the intention to deceive the company or its
shareholders or creditors or tax authorities, he shall be punishable with
imprisonment for a term which may extend to one year and with fine
which shall not be less than fifty thousand rupees but which may extend
to twenty-five lakh rupees or eight times the remuneration of the
auditor, whichever is less .
(3) Where an auditor has been convicted under sub-section (2), he shall be liable
to-
(i) refund the remuneration received by him to the company;
(ii) and pay for damages to the company statutory bodies or authorities
or to members or creditors of the company for loss arising out of
incorrect or misleading statements of particulars made in his audit
report.
(4) The Central Government shall, by notification, specify any statutory body
or authority of an officer for ensuring prompt payment of damages to the
company or the persons under clause (ii) of sub-section (3) and such
body, authority or officer shall after payment of damages the such
company or persons file a report with the Central Government in respect
of making such damages in such manner as may be specified in the said
notification.
(5) Where, in case of audit of a company being conducted by an audit firm,
it is proved that the partner or partners of the audit firm has or have
acted in a fraudulent manner or abetted or colluded in an fraud by, or in
relation to or by, the company or its directors or officers, the liability,
whether civil or criminal as provided in this Act or in any other law for the

time being in force, for such act shall be of the partner or partners
concerned of the audit firm and of the firm jointly and severally.
It may be noted that in case of criminal liability of an audit firm, in respect of
liability other than fine, the concerned partner(s), who acted in a fraudulent
manner or abetted or, as the case may be, colluded in any fraud shall only be
liable.
TEST YOUR KNOWLEDGE

Correct/Incorrect:
State with reasons (in short) whether the following statements are correct or
incorrect:
(i) The first auditor of a Government company was appointed by the Board
in its meeting after 10 days from the date of registration.
(ii) Director's relative can act as an auditor of the company.
(iii) If an LLP (Limited Liability Partnership Firm) is appointed as an auditor of
a company, every partner of a firm shall be authorized to act as an auditor.
(iv) AB & Co. is an audit firm having partners Mr. A and Mr. B. Mr. C, the
relative of Mr. B is holding securities having face value of ` 2,00,000 in
XYZ Ltd. AB & Co. is qualified for being appointed as an auditor of XYZ
Ltd.
(v) The auditor of a Ltd. Company wanted to refer to the minute books during
audit but board of directors refused to show the minute books to the
auditors.
(vi) Manner of rotation of auditor will not be applicable to company A, which
is having paid up share capital of ` 15 crores and having public borrowing
from nationalized bank of ` 50 crore because it is a Private Limited
Company.
(vii) The auditor should study the Memorandum and Articles of Association to
see the validity of his appointment.
(viii) Managing director of A Ltd. himself appointed the first auditor of the company.
(ix) A Chartered Accountant holding securities of S Ltd. having face value of
` 950 is qualified for appointment as an auditor of S Ltd.

(x) Mr. N, a member of the Institute of Company Secretary of India, is

qualified to be appointed as auditor of XYZ Limited.
(xi) The Board of Director of ABC Ltd., a listed company at Bombay Stock
(xii) Bhartiya Gas Ltd. a Government Company, the Comptroller and Auditor-
General of India shall, in respect of a financial year, appoint an auditor
duly qualified to be appointed as an auditor of companies under this Act,
within a period of 180 days from the end of the financial year, who shall
hold office till the end of the next Financial year.
(xiii) CA K has resigned as an auditor after 2 months of his appointment in NML
Ltd. He needs to file ADT-3 with the Registrar within 60 days from the
date of resignation.
(xiv) The Board of Director of ABC Ltd., a listed company at Bombay Stock
(xv) Any partner of an LLP, who is appointed as an auditor of a company, can
sign the audit report.
(xvi) Audit committee is to be constituted by every public company to ensure
better standards of corporate governance.
(xvii) XYZ Ltd is engaged in manufacture of textiles specified under prescribed
rules having total revenue of Rs.100 crore (including export turnover of
Rs.88 crores in foreign exchange) in immediately preceding financial year.
The said company is required to get cost audit conducted for immediately
preceding financial year.
(xviii) The auditor has to report under section 143 of companies act, 2013
whether company has adequate internal controls in place and overall
effectiveness of such internal controls.
(xix) Discovery of an offence of a fraud of Rs.100 lakh by auditor against the
company committed by its officers is to be reported to Serious Fraud
Investigation office(SFIO).
(xx) The concept of “joint audit” has legal foothold under the Companies Act,
2013.

1. An auditor purchased goods worth ` 501,500 on credit from a company
being audited by him. The company allowed him one month’s credit,
which it normally allowed to all known customers. Comment.
2. (a) Ram and Hanuman Associates, Chartered Accountants in practice
have been appointed as Statutory Auditor of Krishna Ltd. for the
accounting year 2017-2018. Mr. Hanuman holds 100 equity shares
of Shiva Ltd., a subsidiary company of Krishna Ltd. Comment.
(b) Managing Director of PQR Ltd. himself wants to appoint Shri
Ganpati, a practicing Chartered Accountant, as first auditor of the
company. Comment on the proposed action of the Managing
Director.
3. Under what circumstances the retiring Auditor cannot be reappointed?
4. Discuss the following:
(a) Ceiling on number of audits in a company to be accepted by an
auditor.
(b) Filling of a casual vacancy of auditor in respect of a company audit.
(c) In Joint Audit, "Each Joint Auditor is responsible only for the work
allocated to him".
5. ABC Ltd is a company incorporated in India. It has branches within and
outside India. Explain who can be appointed as an auditor of these
branches within and outside India. Also explain to whom branch auditor
is required to report.
6. Before the commencement of the audit, the joint auditors should discuss
auditors should identify division of audit areas and common audit
areas. Explain stating the other relevant considerations in this regard.
7. Board of Directors of MN Ltd. wants to appoint CA B, a practicing
Chartered Accountant, as an internal auditor of the company as they
believe that they could not appoint any other person as an internal
auditor other than practicing chartered accountant.
Examine the correctness of the statement of Board of Directors of MN Ltd.
with respect to provisions of Companies Act, 2013.

8. "CA. NM who is rendering management consultancy service to LA Ltd.

wants to accept offer letter for appointment as an auditor of the LA Ltd.
for the next financial year." Discuss with reference to the provision of the
9. Why Central Government permission is required, when the auditors are to
be removed before expiry of their term, but the same is not needed when
the auditors are changed after expiry of their term?
10. The practice of appointing Chartered Accountants as joint auditors is
quite widespread in big companies and corporations. Explain stating the
advantages of the joint audit.
11. According to Companies Act, 2013, the person appointed as an auditor of
the company shall sign the auditor's report in accordance with the
relevant provisions of the Act. Explain clearly the relevant provisions
relating to signing of report.
12. The auditor shall make a report to the members of the company on the
accounts examined by him. Explain with reference to relevant provisions
of the Companies Act, 2013.
13. “The role of audit committee in corporate governance is not limited to
making recommendation for appointment of auditors only.” Discuss.
14. The auditor has to make inquires on certain matters under section 143(1)
of Companies Act, 2013. Discuss these matters.
15. Discuss the purpose of cost audit. What are the legal provisions regarding
applicability of cost audit?
ANSWERS/SOLUTIONS
(i) Incorrect: According to section 139(7) of the Companies Act, 2013, in the
case of a Government company, the first auditor shall be appointed by
the Comptroller and Auditor- General of India within 60 days from the
date of registration of the company. If CAG fails to make the appointment
within 60 days, the Board shall appoint in next 30 days.
(ii) Incorrect: As per section 141(3) of the Companies Act, 2013, a person
shall not be eligible for appointment as an auditor of a company whose
relative is a Director or is in the employment of the Company as a director
or key Managerial Personnel.

(iii) Incorrect: As per section 141(2) of the Companies Act, 2013, where a firm
including a limited liability partnership (LLP) is appointed as an auditor of
a company, only the partners who are Chartered Accountants shall be
(iv) Incorrect: As per the provisions of the Companies Act, 2013, a person is
disqualified to be appointed as an auditor of a company if his relative is
holding any security of or interest in the company of face value exceeding
` 1 lakh.
Therefore, AB & Co. shall be disqualified for being appointed as an auditor
of XYZ Ltd. as Mr. C, the relative of Mr. B who is a partner in AB & Co., is
holding securities in XYZ Ltd. having face value of ` 2 lakh.
(v) Incorrect: The provisions of Companies Act, 2013 grant rights to the
auditor to access books of account and vouchers of the company. He is
also entitled to require information and explanations from the company.
Therefore, he has a statutory right to inspect the minute book.
(vi) Incorrect: According to section 139 of the Companies Act, 2013, the
provisions related to rotation of auditor are applicable to all private
limited companies having paid up share capital of ` 20 crore or more; and
all companies having paid up share capital of below threshold limit
institutions, banks or public deposits of ` 50 crore or more.
Although company A is a private limited company yet it is having public
borrowings from nationalized bank of ` 50 crores, therefore it would be
governed by provisions of rotation of auditor.
(vii) Incorrect: The auditor should study the Memorandum of Association to
check the objective of the company to be carried on, amount of
authorized share capital etc. and Articles of Association to check the
internal rules, regulations and ensuring the validity of transactions relating
to accounts of the company.
To see the validity of appointment, the auditor should ensure the
compliance of the provisions of section 139, 140 and 141 of the
In addition, the auditor should study the appointment letter & the
prescribed Form submitted to the Registrar of the Companies to see the
validity of his appointment.

(viii) Incorrect: As per section 139(6) of the Companies Act, 2013, the first
auditor of a company, other than a government company, shall be
appointed by the Board of directors within 30 days from the date of
Therefore, the appointment of first auditor made by the managing
director of A Ltd. is in violation of the provisions of the Companies Act,
2013.
(ix) Incorrect: As per the provisions of the Companies Act, 2013, a person is
disqualified to be appointed as an auditor of a company if he is holding
any security of or interest in the company.
As the chartered accountant is holding securities of S Ltd. having face
value of ` 950, he is not eligible for appointment as an auditor of S Ltd.
(x) Incorrect: As per section 141 of the Companies Act, 2013, a person shall
be eligible for appointment as an auditor of a company only if he is a
chartered accountant.
Thus, Mr. N is disqualified to be appointed as an auditor of XYZ Limited.
(xi) Correct: Where a company is required to constitute an Audit Committee
(xii) Incorrect- As per section 139(5), in the case of a Government company
or any other company owned or controlled, directly or indirectly, by the
Central Government, or by any State Government or Governments, or
partly by the Central Government and partly by one or more State
Governments, the Comptroller and Auditor-General of India shall, in
respect of a financial year, appoint an auditor duly qualified to be
appointed as an auditor of companies under this Act, within a period of
180 days from the commencement of the financial year, who shall hold
office till the conclusion of the annual general meeting.
(xiii) Incorrect: As per section140(2) of the Companies Act, 2013, the auditor
who has resigned from the company shall file within a period of 30 days
from the date of resignation, a statement in the prescribed Form ADT–
3(as per Rule 8 of CAAR) with the company and the Registrar.
(xiv) Correct: Where a company is required to constitute an Audit Committee

(xv) Incorrect: Section 141(2) of the Companies Act, 2013 states that where
a firm including a limited liability partnership is appointed as an auditor
of a company, only the partners who are chartered accountants shall be
(xvi) Incorrect. Under Section 177 of Companies Act, 2013 read together with
Rule 4 of Companies( Appointment and qualification of Directors) Rules,
2014 prescribe that audit committee is to be constituted by every listed
public company and following classes of public companies only:-
(i) the Public Companies having paid up share capital of ten crore
rupees or more; or
(ii) the Public Companies having turnover of one hundred crore rupees
or more; or
(iii) the Public Companies which have, in aggregate, outstanding loans,
debentures and deposits, exceeding fifty crore rupees:
Hence, the statement that all public companies are required to constitute
audit committee is incorrect.
(xvii) Incorrect. The provisions of cost audit are not applicable in case of
companies having revenue from exports in foreign exchange being more
than 75% of its total revenue. As the company is having export turnover
of Rs.88 crore in total revenues of Rs.100 core, the provisions of cost audit
are not applicable to the said company.
(xviii) Incorrect: Under provisions of Section 143 of the companies Act, 2013,
auditor has to report whether the company has adequate internal financial
controls with reference to financial statements in place and operating
effectiveness of such controls. The auditor has to report on adequacy and
effectiveness of internal financial controls only and not internal controls.
(xix) Incorrect: Fraud of Rs.100.00 lakhs or above (i.e. Rs.1.00 crore or above)
has to be reported to Central government ( precisely to Secretary, Ministry
of Corporate affairs) in Form ADT-4.
(xx) Correct: Under provisions of section 139(3), the members of a company
may resolve to provide that audit shall be conducted by more than one
auditor. Hence, the concept of “joint audit” has legal foothold also under

Answers to Theoretical Questions

1. Purchase of Goods on Credit by the Auditor: Section 141(3)(d)(ii) of the
Companies Act, 2013 specifies that a person shall be disqualified to act as an
auditor if he is indebted to the company for an amount exceeding five lakh
rupees.
Where an auditor purchases goods or services from a company audited
by him on credit, he is definitely indebted to the company and if the
amount outstanding exceeds rupees five lakh, he is disqualified for
appointment as an auditor of the company.
It will not make any difference if the company allows him the same period
of credit as it allows to other customers on the normal terms and
conditions of the business. The auditor cannot argue that he is enjoying
only the normal credit period allowed to other customers. In fact, in such
a case he has become indebted to the company and consequently he has
deemed to have vacated his office.
2. (a) Auditor Holding Securities of a Company: As per sub-section
(3)(d)(i) of Section 141 of the Companies Act, 2013 read with Rule
10 of the Companies (Audit and Auditors) Rule, 2014, a person shall
not be eligible for appointment as an auditor of a company, who, or
his relative or partner is holding any security of or interest in the
company or its subsidiary, or of its holding or associate company or
a subsidiary of such holding company. However, the relative may
hold security or interest in the company of face value not exceeding
` 1 lakh.
Also, as per sub-section 4 of Section 141 of the Companies Act,
2013, where a person appointed as an auditor of a company incurs
any of the disqualifications mentioned in sub-section (3) after his
appointment, he shall vacate his office as such auditor and such
vacation shall be deemed to be a casual vacancy in the office of the
auditor.
In the present case, Mr. Hanuman, Chartered Accountant, a partner
of M/s Ram and Hanuman Associates, holds 100 equity shares of
Shiva Ltd. which is a subsidiary of Krishna Ltd. Therefore, the firm,
M/s Ram and Hanuman Associates would be disqualified to be
appointed as statutory auditor of Krishna Ltd., which is the holding

company of Shiva Ltd., because one of the partners Mr. Hanuman is

holding equity shares of its subsidiary.
(b) Appointment of First Auditor of Company: Section 139(6) of the
Companies Act, 2013 lays down that the first auditor or auditors of
a company shall be appointed by the Board of directors within 30
days from the date of registration of the company.
In the instant case, the appointment of Shri Ganapati, a practicing
Chartered Accountant as first auditors by the Managing Director of
PQR Ltd. by himself is in violation of Section 139(6) of the
Companies Act, 2013, which authorizes the Board of Directors to
appoint the first auditor of the company within 30 days of
In view of the above, the Managing Director of PQR Ltd. should be
advised not to appoint the first auditor of the company.
3. Circumstances where Retiring Auditor Cannot be Reappointed: In the
following circumstances, the retiring auditor cannot be reappointed-
(i) A specific resolution has not been passed to reappoint the retiring
auditor.
(ii) The auditor proposed to be reappointed does not possess the
qualification prescribed under section 141 of the Companies Act,
2013.
(iii) The proposed auditor suffers from the disqualifications under
section 141(3), 141(4) and 144 of the Companies Act, 2013.
(iv) He has given to the company notice in writing of his unwillingness
to be reappointed.
(v) A resolution has been passed in AGM appointing somebody else or
providing expressly that the retiring auditor shall not be
reappointed.
(vi) A written certificate has not been obtained from the proposed
auditor to the effect that the appointment or reappointment, if
made, will be in accordance within the limits specified under section
4. Hints:
(a) Refer Para 7 Ceiling on number of Audits.

(b) Refer Para 2.3 Filling of a Casual Vacancy

(c) Refer Para 12 Joint Audit.
5. Sub-section (8) of section 143 of the Companies Act, 2013, prescribes the
duties and powers of the company’s auditor with reference to the audit
of the branch and the branch auditor. Where a company has a branch
office, the accounts of that office shall be audited either by the auditor
appointed for the company (herein referred to as the company's auditor)
under this Act or by any other person qualified for appointment as an
auditor of the company under this Act and appointed as such under
section 139, or where the branch office is situated in a country outside
India, the accounts of the branch office shall be audited either by the
company's auditor or by an accountant or by any other person duly
qualified to act as an auditor of the accounts of the branch office in
accordance with the laws of that country and the duties and powers of
the company' s auditor with reference to the audit of the branch and the
branch auditor, if any, shall be such as may be prescribed:
It may be noted that the branch auditor shall prepare a report on the
accounts of the branch examined by him and send it to the auditor of the
company who shall deal with it in his report in such manner as he
considers necessary.
reporting of fraud by the auditor shall also extend to such branch auditor
to the extent it relates to the concerned branch.
6. Before the commencement of the audit, the joint auditors should
discuss and develop a joint audit plan. In developing the joint audit
plan, the joint auditors should:
are significant


(7) 1. As per section 138, the internal auditor shall either be a chartered
accountant or a cost accountant (whether engaged in practice or
not).
2. Or such other professional as may be decided by the Board to
conduct internal audit of the functions and activities of the
companies.
3. The internal auditor may or may not be an employee of the
company.
Hence, the belief of Company is not correct.
8. Section 141(3)(i) of the Companies Act, 2013 disqualifies a person for
appointment as an auditor of a company who is engaged as on the date
of appointment in management consultancy service as provided in
section 144. Section 144 of the Companies Act, 2013 prescribes certain
services not to be rendered by the auditor which are as under:
(i) Accounting and book keeping services
(ii) Internal audit.
(iii) Design and implementation of any financially information system.
(iv) Actuarial services
(v) Investment advisory services.
(vi) Investment banking services.
(vii) Rendering of outsourced financial services
(viii) Management services and
(ix) Any other kind of services as may be prescribed
Therefore, CA. NM is advised not to accept the assignment of auditing as
the management consultancy service is specifically notified in the list of
services not to be rendered by him as per section 141(3)(i) read with
section 144 of the Companies Act, 2013.
9. Permission of Central Government for Removal of Auditor Under
Section 140(1) of the Companies Act, 2013: Removal of auditor before
expiry of his term i.e. before he has submitted his report is a serious
matter and may adversely affect his independence.

Further, in case of conflict of interest the shareholders may remove the

auditors in their own interest.
Therefore, law has provided this safeguard so that central government
may know the reasons for such an action and if not satisfied, may not
accord approval.
On the other hand if auditor has completed his term i.e. has submitted his
report and thereafter he is not re-appointed then the matter is not serious
enough for central government to call for its intervention.
In view of the above, the permission of the Central Government is required
when auditors are removed before expiry of their term and the same is
not needed when they are not re-appointed after expiry of their term.
10. Joint Audit: The practice of appointing Chartered Accountants as joint
auditors is quite widespread in big companies and corporations. Joint
audit basically implies pooling together the resources and expertise of
more than one firm of auditors to render an expert job in a given time
period which may be difficult to accomplish acting individually. It
essentially involves sharing of the total work. This is by itself a great
advantage.
(vi) Displacement of the auditor of the company taken over in a
takeover often obviated.
(vii) In respect of multi-national companies, the work can be spread
using the expertise of the local firms which are in a better position
to deal with detailed work and the local laws and regulations.
(x) A sense of healthy competition towards a better performance

11. Duty to Sign the Audit Report: As per section 145 of the Companies
Act, 2013, the person appointed as an auditor of the company shall sign
the auditor's report or sign or certify any other document of the company,
in accordance with the provisions of section 141(2).
general meeting.
12. Right to report to the members of the company on the accounts
examined by him – The auditor shall make a report to the members of
the company on the accounts examined by him and on every financial
statements which are required by or under this Act to be laid before the
company in general meeting and the report shall after taking into account
the provisions of this Act, the accounting and auditing standards and
matters which are required to be included in the audit report under the
provisions of this Act or any rules made there under or under any order
made under this section and to the best of his information and
view of the state of the company’ s affairs as at the end of its financial
year and profit or loss and cash flow for the year and such other matters
as may be prescribed.
13. Audit committee performs wide functions. The recommendation for
appointment of auditors is only one of the several functions performed
by audit committee. Under section 177 of companies Act, 2013, audit
committee is responsible for following actions :-
(i) the recommendation for appointment, remuneration and terms of
appointment of auditors of the company;]
(ii) review and monitor the auditor’s independence and performance,
and effectiveness of audit process;
(iii) examination of the financial statement and the auditors’ report
thereon;

(iv) approval or any subsequent modification of transactions of the

company with related parties;
(vi) valuation of undertakings or assets of the company, wherever it is
necessary;
(vii) evaluation of internal financial controls and risk management
systems;
(viii) monitoring the end use of funds raised through public offers and
related matters.
Hence, audit committee oversees range of matters including those related
to making recommendation for appointment of auditors etc.
14. The auditor has to make inquires on following matters under section
143(1) of Companies Act, 2013:-
shown as deposits;
misleading

15. The purpose of cost audit is to verify the cost of manufacture or

production of any article, on the basis of accounts as regards utilisation
of material or labour or other items of costs, maintained by the company.
Rule 4 of the Companies (Cost Records and Audit) Rules, 2014 states the
provisions related to cost audit are applicable depending on the turnover
of the company as follows-
(i) Classes of companies specified under item (A) “Regulated Sectors”
are required to get its cost records audited if the overall annual
turnover of the company from all its products and services during
the immediately preceding financial year is ` 50 crore or more and
the aggregate turnover of the individual product(s) or service(s) for
which cost records are required to be maintained under rule 3 is
` 25 crore or more.
(ii) Classes of companies specified under item (B) “Non-Regulated
Sectors” are required to get its cost records audited if the overall
annual turnover of the company from all its products and services
during the immediately preceding financial year is ` 100 crore or
more and the aggregate turnover of the individual product(s) or
service(s) for which cost records are required to be maintained
under rule 3 is ` 35 crore or more.
However, the requirement for cost audit does not apply to the following
companies:-
(i) whose revenue from exports, in foreign exchange, exceeds seventy
five per cent of its total revenue; or
(ii) Which is operating from a special economic Zone.
(iii) which is engaged in generation of electricity for captive
consumption through Captive Generating PIant.

QUESTIONS

Case Scenario - 1
Suresh Rana & Associates have been appointed as the statutory auditors of HAIL Ltd. by the
Comptroller & Auditor General for the FY 2019-20. HAIL Ltd. is a Government company
engaged in the manufacture of metro train coaches. During the course of audit, CA Suresh
extended his scope of audit to cover efficiency, effectiveness and economy audit. CA Suresh
Rana also asked his audit team to conduct expenditure audit as part of the audit engagement
of HAIL Ltd.
During the course of audit, CA Suresh also found that the company has constructed its new
stockyard for parking its metro coaches and maintenance of its metro coaches. However, the
stockyard was not being used by the company for the designated purpose and the company
continued using the rented stockyard. Suresh considered such expenditure as infructuous and
avoidable expenditure.
The engagement partner also discussed with his team regarding the areas to be covered while
conducting the audit of receipts. The reporting responsibilities of the engagement te am were
also discussed by the engagement partner with his team.
Based on the above facts, answer the following:-
1. Statement 1: Government audit provides public accounting of operational, management
programme and policy aspects of public administration as well as accountability of officials
administering them.
Statement 2: Government audit is equipped and intended to function as an investigating
agency, to pursue every irregularity or misdemeanour to its logical end.
(a) Only statement 1 is correct
(b) Only statement 2 is correct
(c) Both 1 & 2 are correct
(d) Both 1 & 2 are incorrect
2. ………….. is conducted to ensure that the various programmes, schemes, and projects
where large financial expenditure have been incurred are run economically and are yiel ding
results expected of them:-
(a) Propriety audit
(b) Audit against Rules and orders

(c) Performance Audit

(d) Audit against Provision of funds
3. While conducting audit against provision of funds, the statutory auditors, M/s Suresh Rana
& Associates must check:-
(a) That each item of expenditure is covered by a sanction either general or special of a
competent authority.
(b) That the expenditure incurred has been on the purpose for which the grant and
appropriation has been provided and the amount of expenditure does not exceed the
appropriation made.
(c) That the expenditure conforms to the relevant provision of the constitution.
(d) That the expenditure is in accordance with the financial rules, regulations and orders
issued by the competent authority.
4. Which part of expenditure audit covers the scrutiny of the expenditure incurred on the
construction of stockyard by the company which is considered as infructuous and avoidable
by CA Suresh Rana?
(a) Propriety Audit
(b) Audit against provision of funds
(c) Audit of sanctions
(d) Performance Audit
5. While conducting the audit of receipts of HAIL Ltd., which of the following area is to be
covered as part of Audit of Receipts?
1. Whether all revenues or other debts due to government have been correctly
assessed, realised and credited to government account by the designated authorities
of HAIL Ltd.
2. Whether adequate checks are imposed to ensure the prompt detection and
investigation of irregularities, double refunds, fraudulent or forged refund vouchers or
other loss of revenue through fraud or wilful omission or negligence to levy or collect
taxes or to issue refunds.
3. Whether the expenditure incurred has been on the purpose for which the grant and
appropriation had been provided and that the amount of such expenditure does not
exceed the appropriation made.
4. Whether the various schemes/projects are executed and their operations conducted
economically and whether they are yielding the results expected of them.
(b) Statements 1 & 2 are correct

(c) Statements 1,2,3,4 are correct

(d) Statements 1,2,3 are correct
Case Scenario - 2
RS & Associates have been appointed as the statutory auditors of MNO Ltd. for the Financial
Year 2019-20. CA Ramesh is the engagement partner for the assignment. The management of
MNO Ltd. has duly given a written representation letter to CA Ramesh regarding
acknowledgement of its responsibility for the implementation and operation of accounting
system and the internal control system of the company. The management has assured the audit
firm that such accounting and internal control systems are designed and implemented to prevent
and detect any misstatement on account of fraud or error.
During the course of audit, the auditor found that the wages cost has increased substantially as
compared to the last year. On detailed checking CA Ramesh found that many new workers have
been added to the workers list which appear to be dummy workers to CA Ramesh.
Further the auditor found that there was a fraud amounting to Rs. 2 crores committed during the
year under audit by an officer of the company. Such fraud has already been reported by the
Cost Accountant of the company, Mr. Sudesh, to the Central Government. The statutory auditors
are considering their reporting responsibilities in this regard.
The audit team also realized that there is inadequate Internal Control System with respect to
the following:
• The system of authorization and approval of transactions specially in the process of making
purchases.
• The system of record keeping with respect to the assets.
1. As the management of MNO Ltd. has given a written representation regarding its
responsibility for prevention and detection of misstatement on account of fraud and error,
M/s RS & Associates:-
(a) Should rely on such management representation and conduct its audit procedures
without wasting much time and resources towards detection of fraud and error.
(b) Should not consider such management representation as a substitute for obtaining
sufficient and appropriate audit evidence and design its audit procedures accordingly.
(c) Should not rely on such management representation and should obtain written
representation from those charged with governance.
(d) Should concentrate on audit of accounting system and accounting policies so used
by the company as the prevention and detection of fraud and error is the responsibility
of the management.

2. The inclusion of dummy workmen in the workmen list by the management of MNO Ltd. as
noticed by CA Ramesh amounts to:-
(a) Suppressing cash receipts
(b) Casting wrong total in cash book
(c) Inflating cash payment
(d) Misappropriation of goods
3. With respect to the fraud which has already been reported by The Cost acco untant of the
company, Mr. Sudesh, what is the responsibility of M/s RS & Associates in this regard?
(a) Since the reporting has been done to the Central Government by the cost accountant
of the company, the statutory auditor has no responsibility for such fraud and its
reporting.
(b) The cost accountant has detected and reported the fraud to the Central Government.
The statutory auditor should not interfere in the work of the Cost Accountant.
(c) CA Ramesh should review the steps taken by the management with respect to the
reported fraud and if he is not satisfied with such steps, he should request the
management to perform additional procedures to enable him to satisfy himself that
the matter has been appropriately addressed.
(d) CA Ramesh should obtain written representation from the management that once the
matter is appropriately addressed, he will be duly informed by the management.
4. ……………..refers to events or conditions that indicate an incentive or pressure to commit
fraud or provide an opportunity to commit fraud:-
(a) Fraud Risk Factors
(b) Misappropriation of assets
(c) Incentives/ Pressures
(d) Fraud
5. Statement 1: The risk of auditor not detecting a material misstatement resulting from
employee fraud is greater than for management fraud.
Statement 2: The risk of not detecting a material misstatement resulting from fraud is
higher than the risk of not detecting one resulting from error.
(b) Only statement 2 is correct

General MCQs
1. ………..is a possible obligation that arises from the past events and whose existence will
be confirmed only by the occurrence/ non occurrence of one or more uncertain future
events not wholly within the control of the entity:-
(a) Provisions
(b) Reserves
(c) Contingent Liabilities
(d) Liability
2. In relation to completed engagements, procedures designed to provide evidence of
compliance by engagement teams with the firm’s quality control policies and procedures
is known as :
(a) Monitoring
(b) Inspection
(c) Subsequent Audit procedures
(d) Compliance procedures
3. The concept of materiality is applied by the auditor :
(a) in planning and performing the audit
(b) in evaluating the effect of identified misstatements on the audit
(c) both in planning and performing the audit, and in evaluating the effect of identified
misstatements on the audit
(d) none of the above is correct
4. ___________ in which the auditor selects the sample without following a structured
technique.
(a) Haphazard selection,
(b) Monetary Unit Sampling
(c) Block Sampling
(d) Structured Sampling
obligations related to the accountability of the entity are :
(a) management
(c) audit committee


(i) Familiarity threats, which occur when auditors are deterred from acting objectively
with an adequate degree of professional skepticism. Basically, these could happen
because of threat of replacement over disagreements with the application of
reduced audit fees.
(ii) The auditor’s opinion helps determination of the true and correct view of the financial
position and operating results of an enterprise.
(iii) When establishing the overall audit strategy, the auditor need not determine
materiality for the financial statements as a whole.
(iv) The policy of income recognition, in case of a Bank, should be subjective.
(v) The assignment is the creation of an equitable charge which is created in favor of the
lending bank by execution of hypothecation agreement in respect of the moveable
securities belonging to the borrower.
(vi) As per SA 240 the primary responsibility for the prevention and detection of fraud
rests with Auditors.
(vii) Article 151 of the Constitution provides that the accounts of the Union and of the
States shall be kept in such form as the President may on the advice of the C&AG
prescribe.
(viii) In considering the qualitative aspects of the entity’s accounting practices, the auditor
may become aware of possible bias in management’s judgments.
2. (a) On recurring audits, the auditor shall assess whether circumstances require the terms
of the audit engagement to be revised and whether there is a need to remind the
entity of the existing terms of the audit engagement. The auditor may decide not to
send a new audit engagement letter or other written agreement each period. Explain
the factors an auditor considers to be appropriate to revise the terms of the audit
engagement or to remind the entity of existing terms.
safeguards available to eliminate the threats. Explain the guiding principles in this
regard.
3. (a) Discuss preconditions for an audit as per SA 210. Explain how would an auditor
proceed to establish the presence of pre conditions for an audit.
(b) Through its policies and procedures, the firm seeks to establish consistency in the
quality of engagement performance. This is often accomplished through written or

electronic manuals, software tools or other forms of standardized documentation,

and industry or subject matter-specific guidance materials. Explain the matters to be
addressed in this context.
4. (a) Without adequate knowledge of client’s business, a proper audit is not possible. It is
one of the important principles in developing an overall audit plan. Explain in context
with relevant SA, knowledge to be obtained by the auditor in establishing overall plan.
Also explain how such an understanding would be helpful to the auditor.
(b) Planning is not a discrete phase of an audit, but rather a continual and iterative
process that often begins shortly after the completion of the previous audit and
continues until the completion of the current audit engagement. Planning includes the
need to consider certain matters prior to the auditor’s identification and assessment
of the risks of material misstatement. Explain clearly stating those matters also .
5. (a) The auditor’s determination of materiality is a matter of professional judgment, and is
affected by the auditor’s perception of the financial information needs of users of the
financial statements. In this context, explain the auditor’s assumptions about users of
the financial statements.
(b) Financial reporting frameworks often discuss the concept of materiality in the context
of the preparation and presentation of financial statements. Explain
6. (a) A new team member of GSR & Co., the auditors of Esteem Limited, was of the view
that Audit Documentation would not serve any purpose at any stage of Audit. Explain.
(b) While documenting the nature, timing and extent of audit procedures performed in
case of audit of PQR Ltd, explain the important matters its auditor should record.
7. (a) When information to be used as audit evidence has been prepared using the work of
a management’s expert and having regard to the significance of expert’s work for the
auditor’s purposes, explain the considerations auditor would consider for the
purposes of his audit.
(b) When performing risk assessment procedures as required by SA 315, the auditor
shall consider whether events or conditions exist that may cast significant doubt on
the entity’s ability to continue as a going concern. In so doing, the auditor has
determined that management of XYZ Ltd has already performed a preliminary
assessment of the entity’s ability to continue as a going concern. Explain how would
auditor of XYZ Ltd proceed in the above case.
Also explain how would the auditor proceed if such an assessment has not yet been
performed by the management.

8. (a) Under the going concern basis of accounting, the financial statements are prepared
on the assumption that the entity is a going concern and will continue its operations
for the foreseeable future. Explain. Also discuss the objectives of an auditor regarding
Going concern as per relevant standard on auditing.
(b) as described in SA 200, the potential effects of inherent limitations on the auditor’s
ability to detect material misstatements are greater for future events or conditions that
may cause an entity to cease to continue as a going concern. Explain stating the
auditor’s responsibilities with regard to going concern.
9. (a) Auditor GR and Associates have been appointed to conduct audit of PNG Ltd, a
manufacturing company engaged in manufacturing of various food items. While
planning an audit, the auditors do not think that it would be necessary to understand
internal controls. Advise the auditor in this regard explaining clearly the benefits of
understanding the internal control.
(b) Factors relevant to the auditor’s judgment about whether a control, individually or in
combination with others, is relevant to the audit may include such matters as
materiality, the significance of the related risk etc. Explain in detail.
10. (a) The auditor shall obtain an understanding of the information system, including the
related business processes, relevant to financial reporting, including the classes of
transactions in the entity’s operations that are significant to the financial statements,
controls surrounding journal entries etc. Explain the other considerations in this
regard.
(b) The auditor shall obtain an understanding of control activities relevant to the audit,
which the auditor considers necessary to assess the risks of material misstatement.
Explain in detail stating clearly the meaning of control activities and also discuss
control activities that are relevant to the audit.
11. Where the auditor notices that any fraud by the company or on the company by its officers
or employees has been noticed by or reported during the year, the auditor should, apart
from reporting the existence of fraud, also report under clause (x) of paragraph 3 of
Companies (Auditor’s Report) Order, 2016, the nature of fraud and amount involved.
Explain the considerations an auditor would keep in mind for reporting under this clause.
12. The primary responsibility for the prevention and detection of fraud rests with both those
charged with governance of the entity and management. Explain.
13. Objective of Data Center and Network Operations is to ensure that production systems are
processed to meet financial reporting objectives. Discuss the activities performed by Data
Center and Network operations. Also explain the meaning of General IT Controls in detail.

14. Data analytics can be used in testing of electronic records and data residing in IT systems
using spreadsheets and specialised audit tools viz., IDEA and ACL to perform the selection
of audit samples. Explain giving other relevant points also in the above context of data
analytics.
15. Explain the following terms with reference to Audit Sampling :
(i) Stratification
(ii) Tolerable misstatement
(iii) Tolerable rate of deviation
16. In most of the circumstances, the evidence available is not conclusive and the auditor
always takes a calculated risk in giving his opinion. Even by undertaking hundred percent
checking of the transactions, the auditor does not derive absolute satisfaction. This state
of uneasiness led pragmatic auditors to adopt the statistical theory of sampling to derive
the necessary satisfaction about the state of affairs by checking only a part of the total
population of entries. Explain in detail.
17. The design of a substantive analytical procedure is limited only by the availability of reliable
data and the experience and creativity of the audit team. In this context, d iscuss the
techniques available as Substantive Analytical Procedures.
18. Mention the Analytical Review procedures that may be useful as a means of obtaining audit
evidence regarding various assertions relating to Trade receivables, loans and advances.
19. List out the steps to be taken by auditor while vouching/ verifying the 'Refund of General
Insurance premium paid'.
20. Newton Ltd. has made loans and advances on the basis of following securities to various
borrowers. As an auditor what type of documents can be verified to ensure that the
company holds a legally enforceable security?
(i) Shares and Debentures
(ii) Life Insurance Policy
(iii) Hypothecation of goods.
21. During the audit of PQR Ltd. you as an auditor requested officers of the company to have
access to secretarial records and correspondence which they refused to provide.
Comment.

22. In exercise of the powers conferred by the Chartered Accountants Act, 1949, the Council
of the Institute of Chartered Accountants of India specifies that a member of the Institute
in practice shall be deemed to be guilty of professional misconduct, if he holds at any time
appointment of more than the “specified number of audit assignments of the companies
under Section 141(3)(g) of the Companies Act, 2013).
Explain the provisions prescribed under Companies Act, 2013 in respect of ceili ng on
number of audits in a company to be accepted by an auditor.
23. Discuss the Provisions regarding appointment of Auditors -
(i) First auditor of a Government company and a Non-Government company.
(ii) Subsequent auditor of a Government company and a Non- Government company.
24. The Auditor is fully satisfied with the audit of an entity in respect of its systems and
procedures and wants to issue a report without any hesitation. Discuss the type of opinion
that can be given and state giving reasoning.
25. The requirements of SA 700 are aimed at addressing an appropriate balance between the
need for consistency and comparability in auditor reporting globally. Explain
26. Your firm of auditors, SRG & Co., has been appointed as Statutory Central Auditors of
Reliable Bank. Explain the reporting requirements of the Statutory Central Auditors (SCAs)
in addition to their main audit report.
requires the major attention from the auditors. Explain the broad considerations about
which the auditor is primarily concerned with obtaining evidence in carrying out audit of
advances.
28. (a) Government audit has not only adopted the basic essentials of auditing as known and
practised in the profession to suit the requirements of governmental transactions but
has also added new concepts, techniques and procedures to the audit profession.
Explain stating clearly the definition of Government auditing as discussed in U.N.
Handbook on Govt Auditing and Developing Countries and also state Objectives of
Govt audit.
(b) Government audit is neither equipped nor intended to function as an investigating
agency, to pursue every irregularity or misdemeanour to its logical end. Explain

SUGGESTED ANSWERS

1. (a)
2. (c)
3. (b)
4. (a)
5. (b)
1. (b)
2. (c)
3. (c)
4. (a)
5. (b)
General MCQ’s
1 (c)
2 (b)
3 (c)
4 (a)
5 (b)
Descriptive Answers
1. (i) Incorrect: Intimidation threats, which occur when auditors are deterred from acting
objectively with an adequate degree of professional skepticism. Basically, these could
happen because of threat of replacement over disagreements with the application of
reduced audit fees.
Familiarity threats are self-evident, and occur when auditors form relationships with
the client where they end up being too sympathetic to the client’s interests.
(ii) Incorrect: The auditor’s opinion helps determination of the true and fair view of the
financial position and operating results of an enterprise.
(iii) Incorrect : When establishing the overall audit strategy, the auditor shall determine
materiality for the financial statements as a whole.

(iv) Incorrect: The policy of income recognition should be objective and based on record
of recovery rather than on any subjective considerations. Income from non-performing
assets (NPA) is not recognized on accrual basis but is booked as income only when
it is actually received.
(v) Incorrect: The hypothecation is the creation of an equitable charge (i.e., a charge
created not by an express enactment but by equity and reason), which is created in
favor of the lending bank by execution of hypothecation agreement in respect of the
moveable securities belonging to the borrower.
Assignment represents a transfer of an existing or future debt, right or property
belonging to a person in favor of another person.
(vi) Incorrect: As per SA 240 the primary responsibility for the prevention and detection
of fraud rests with management. An auditor conducting an audit in accordance with
SAs is responsible for obtaining reasonable assurance that the financial statements
(vii) Incorrect: Article 150 of the Constitution provides that the accounts of the Union and
of the States shall be kept in such form as the President may on the advice of the
C&AG prescribe.
Article 151 requires that the reports of the C&AG relating to the accounts of the
Union/State shall be submitted to the President/Governor who shall cause them to be
laid before House of Parliament/State Legislature.
(viii) Correct: In considering the qualitative aspects of the entity’s accounting practices,
the auditor may become aware of possible bias in management’s judgments. The
auditor may conclude that lack of neutrality together with uncorrected misstatements
causes the financial statements to be materially misstated.
2. (a) On recurring audits, the auditor shall assess whether circumstances require the terms
of the audit engagement to be revised and whether there is a need to remind the
entity of the existing terms of the audit engagement.
The auditor may decide not to send a new audit engagement letter or other written
agreement each period. However, the following factors may make it appropriate to
revise the terms of the audit engagement or to remind the entity of existing terms:
 Any indication that the entity misunderstands the objective and scope of the
audit.
 Any revised or special terms of the audit engagement.
 A recent change of senior management.
 A significant change in ownership.
 A significant change in nature or size of the entity’s business.

 A change in legal or regulatory requirements.

 A change in the financial reporting framework adopted in the preparation of the
 A change in other reporting requirements.
(i). For the public to have confidence in the quality of audit, it is essential that
auditors should always be and appears to be independent of the entities that
they are auditing.
(ii). In the case of audit, the key fundamental principles are integrity, objectivity and
professional skepticism, which necessarily require the auditor to be
independent.
(iii). Before taking on any work, an auditor must conscientiously consider whether it
(iv). When such threats exist, the auditor should either desist from the task or put in
place safeguards that eliminate them.
(v). If the auditor is unable to fully implement credible and adequate safeguards,
then he must not accept the work.
3. (a) As per SA 210 “Agreeing the Terms of Audit Engagements”, preconditions for an
audit may be defined as the use by management of an acceptable financial reporting
framework in the preparation of the financial statements and the agreement of
management and, where appropriate, those charged with governance to the premise
on which an audit is conducted.
In order to establish whether the preconditions for an audit are present, the
auditor shall:
(a) Determine whether the financial reporting framework is acceptable; and
(b) Obtain the agreement of management that it acknowledges and understands its
responsibility:
(i) For the preparation of the financial statements in accordance with the
applicable financial reporting framework;
(ii) For the internal control as management considers necessary; and
(iii) To provide the auditor with:

➢ Access to all information such as records, documentation and other

matters;
➢ Additional information that the auditor may request from management
for the purpose of the audit; and
➢ Unrestricted access to persons within the entity from whom the
auditor determines it necessary to obtain audit evidence.
(b) The firm should establish policies and procedures designed to provide it with
reasonable assurance that engagements are performed in accordance with
professional standards and regulatory and legal requirements, and that the firm or the
engagement partner issues reports that are appropriate in the circumstances.
Through its policies and procedures, the firm seeks to establish consistency in the
quality of engagement performance. This is often accomplished through written or
electronic manuals, software tools or other forms of standardized documentation,
and industry or subject matter-specific guidance materials. Matters addressed include
the following:
 How engagement teams are briefed on the engagement to obtain an
understanding of the objectives of their work.
 Processes for complying with applicable engagement standards.
 Processes of engagement supervision, staff training and coaching.
 Methods of reviewing the work performed, the significant judgments made and
the form of report being issued.
 Appropriate documentation of the work performed and of the timing and extent
of the review.
 Processes to keep all policies and procedures current.
4. (a) Without adequate knowledge of client’s business, a proper audit is not possible. It is
one of the important principles in developing an overall audit plan. As per SA-315,
“Identifying and Assessing the Risk of Material Misstatement through Understanding
the Entity and Its Environment”, the auditor shall obtain an understanding of the
following:
(a) Relevant industry, regulatory and other external factors including the applicable
financial reporting framework.
(b) The nature of the entity, including:
(i) its operations;
(ii) its ownership and governance structures;
(iii) the types of investments that the entity is making and plans to make,

including investments in special-purpose entities; and

(iv) the way that the entity is structured and how it is financed;
to enable the auditor to understand the classes of transactions, account
balances, and disclosures to be expected in the financial statements.
(c) The entity’s selection and application of accounting policies, including the
reasons for changes thereto. The auditor shall evaluate whether the entity’s
accounting policies are appropriate for its business and consistent with the
applicable financial reporting framework and accounting policies used in the
relevant industry.
(d) The entity’s objectives and strategies, and those related business risks that may
result in risks of material misstatement.
(e) The measurement and review of the entity’s financial performance.
In addition to the importance of knowledge of the client’s business in establishing the
overall audit plan, such knowledge helps the auditor to identify areas of special audit
consideration, to evaluate the reasonableness both of accounting estimates and
management representations and to make judgements regarding the appropriateness
of accounting policies and disclosures.
(b) In the context of recurring audits, as per SA-300, “Planning an Audit of Financial
Statements”, Planning is not a discrete phase of an audit, but rather a continual and
iterative process that often begins shortly after (or in connection with) the completion
of the previous audit and continues until the completion of the current audit
engagement. Planning, however, includes consideration of the timing of certain
activities and audit procedures that need to be completed prior to the performance of
further audit procedures. For example, planning includes the need to consider, prior
to the auditor’s identification and assessment of the risks of material misstatement,
such matters as:
1. The analytical procedures to be applied as risk assessment procedures.
2. Obtaining a general understanding of the legal and regulatory framework
applicable to the entity and how the entity is complying with that framework.
3. The determination of materiality.
4. The involvement of experts.
5. The performance of other risk assessment procedures.
5. (a) The auditor’s determination of materiality is a matter of professional judgment, and is
affected by the auditor’s perception of the financial information needs of users of the
financial statements. In this context, it is reasonable for the auditor to assume that
users:
(i) Have a reasonable knowledge of business and economic activities and

accounting and a willingness to study the information in the financial statements

with reasonable diligence;
(ii) Understand that financial statements are prepared, presented and audited to
levels of materiality;
(iii) Recognize the uncertainties inherent in the measurement of amounts based on
the use of estimates, judgment and the consideration of future events; and
(iv) Make reasonable economic decisions on the basis of the information in the
(b) Financial reporting frameworks often discuss the concept of materiality in the context
of the preparation and presentation of financial statements. Although financial
reporting frameworks may discuss materiality in different terms, they generally
explain that:
 Misstatements, including omissions, are considered to be material if they,
individually or in the aggregate, could reasonably be expected to influence the
economic decisions of users taken on the basis of the financial statements;
 Judgments about materiality are made in the light of surrounding circumstances,
and are affected by the size or nature of a misstatement, or a combination of
both; and
3. Judgments about matters that are material to users of the financial statements
are based on a consideration of the common financial information needs of users
as a group. The possible effect of misstatements on specific individual users,
whose needs may vary widely, is not considered.
6. (a) The following are the purpose of Audit documentation:
1. Assisting the engagement team to plan and perform the audit.
2. Assisting members of the engagement team to direct and supervise the audit
work, and to discharge their review responsibilities.
3. Enabling the engagement team to be accountable for its work.
4. Retaining a record of matters of continuing significance to future audits.
5. Enabling the conduct of quality control reviews and inspections in accordance
with SQC 1.
6. Enabling the conduct of external inspections in accordance with applicable legal,
regulatory or other requirements.
From the above, it can be concluded that Audit documentation serves a nu mber of
purposes and hence it would be incorrect to say that audit documentation would not
serve any purpose at any stage of audit.

(b) In documenting the nature, timing and extent of audit procedures performed, the
auditor of PQR Ltd shall record:
(i) The identifying characteristics of the specific items or matters tested.
(ii) Who performed the audit work and the date such work was completed; and
(iii) Who reviewed the audit work performed and the date and extent of such review.
7. (a) When information to be used as audit evidence has been prepared using the work of
a management’s expert, the auditor shall, to the extent necessary, having regard to
the significance of that expert’s work for the auditor’s purposes:
(i) Evaluate the competence, capabilities and objectivity of that expert;
(ii) Obtain an understanding of the work of that expert; and
(iii) Evaluate the appropriateness of that expert’s work as audit evidence for the
relevant assertion.
(b) When performing risk assessment procedures as required by SA 315, the auditor
shall consider whether events or conditions exist that may cast significant doubt on
the entity’s ability to continue as a going concern.
In so doing, the auditor shall determine whether management has already performed
a preliminary assessment of the entity’s ability to continue as a going concern, and:
(i) If such an assessment has been performed, the auditor shall discuss the
assessment with management and determine whether management has
identified events or conditions that, individually or collectively, may cast
significant doubt on the entity’s ability to continue as a going concern and, if so,
management’s plans to address them; or
(ii) If such an assessment has not yet been performed, the auditor shall discuss
with management the basis for the intended use of the going concern basis of
accounting, and inquire of management whether events or conditions exist that,
individually or collectively, may cast significant doubt on the entity’s ability to
continue as a going concern.
8. (a) Under the going concern basis of accounting, the financial statements are prepared
on the assumption that the entity is a going concern and will continue its operations
for the foreseeable future.
General purpose financial statements are prepared using the going concern basis of
accounting, unless management either
(i) intends to liquidate the entity or to cease operations,
(ii) or has no realistic alternative but to do so.

When the use of the going concern basis of accounting is appropriate, assets and
liabilities are recorded on the basis that the entity will be able to realize its assets and
discharge its liabilities in the normal course of business.
The objectives of the auditor regarding Going Concern are:
(1) To obtain sufficient appropriate audit evidence regarding, and conclude on, the
appropriateness of management’s use of the going concern basis of accounting
in the preparation of the financial statements;
(2) To conclude, based on the audit evidence obtained, whether a material
uncertainty exists related to events or conditions that may cast significant doubt
on the entity’s ability to continue as a going concern; and
(3) To report in accordance with this SA.
(b) The auditor’s responsibilities are:
(1) to obtain sufficient appropriate audit evidence regarding, and conclude on, the
appropriateness of management’s use of the going concern basis of accounting
in the preparation of the financial statements, and
(2) to conclude, based on the audit evidence obtained, whether a material
uncertainty exists about the entity’s ability to continue as a going concern.
However, as described in SA 200, the potential effects of inherent limitations on the
auditor’s ability to detect material misstatements are greater for future events or
conditions that may cause an entity to cease to continue as a going concern. T he
auditor cannot predict such future events or conditions. Accordingly, the absence of
any reference to a material uncertainty about the entity’s ability to continue as a going
concern in an auditor’s report cannot be viewed as a guarantee as to the entit y’s
ability to continue as a going concern.
9. (a) The auditor shall obtain an understanding of internal control relevant to the audit.
Although most controls relevant to the audit are likely to relate to financial reporting,
not all controls that relate to financial reporting are relevant to the audit. It is a matter
of the auditor’s professional judgment whether a control, individually or in combination
with others, is relevant to the audit.
Benefits of Understanding the Internal Control
An understanding of internal control assists the auditor in:
(i) identifying types of potential misstatements;
(ii) identifying factors that affect the risks of material misstatement, and
(iii) designing the nature, timing, and extent of further audit procedures.

(b) Factors relevant to the auditor’s judgment about whether a control, individually
or in combination with others, is relevant to the audit may include such matters
as the following:
 Materiality.
 The significance of the related risk.
 The size of the entity.
 The nature of the entity’s business, including its organisation and ownership
characteristics.
 The diversity and complexity of the entity’s operations.
 Applicable legal and regulatory requirements.
 The circumstances and the applicable component of internal control.
 The nature and complexity of the systems that are part of the entity’s internal
control, including the use of service organisations.
 Whether, and how, a specific control, individually or in combination with others,
prevents, or detects and corrects, material misstatement.
10. (a) The auditor shall obtain an understanding of the information system, including
the related business processes, relevant to financial reporting, including the
following are as:
(a) The classes of transactions in the entity’s operations that are significant to the
financial statements;
(b) The procedures by which those transactions are initiated, recorded, processed,
corrected as necessary, transferred to the general ledger and reported in the
financial statements;
(c) The related accounting records, supporting information and specific accounts in
the financial statements that are used to initiate, record, process and report
transactions;
(d) How the information system captures events and conditions that are significant
to the financial statements;
(e) The financial reporting process used to prepare the entity’s financial statements;
(f) Controls surrounding journal entries.
(b) The auditor shall obtain an understanding of control activities relevant to the audit,
which the auditor considers necessary to assess the risks of material misstatement.
An audit requires an understanding of only those control activities related to
significant class of transactions, account balance, and disclosure in the financial

statements and the assertions which the auditor finds relevant in his risk assessment
process.
Control activities are the policies and procedures that help ensure that management
directives are carried out.
Control activities, whether within IT or manual systems, have various objectives and
are applied at various organisational and functional levels.
Examples of specific control activities include those relating to the following:
Control activities that are relevant to the audit are:

• Control activities that relate to significant risks and those that relate to risks for
which substantive procedures alone do not provide sufficient appropriate audit
evidence; or
• Those that are considered to be relevant in the judgment of the auditor;
• As part of the risk assessment, the auditor shall determine whether any of the
risks identified are, in the auditor’s judgment, a significant risk.
11. Where the auditor notices that any fraud by the company or on the company by its officers
or employees has been noticed by or reported during the year, the auditor should, apart
from reporting the existence of fraud, also required to report under clause (x) of paragraph
3 of Companies (Auditor’s Report) Order, 2016, the nature of fraud and amount involved.
(i) This clause requires all frauds noticed or reported during the year shall be reported
indicating the nature and amount involved. As specified the fraud by the company or
on the company by its officers or employees are only covered.

(ii) Of the frauds covered under section 143(12) of the Act, only noticed frauds shall be
included here and not the suspected frauds.
(iii) While reporting under this clause with regard to the nature and the amount invol ved
of the frauds noticed or reported, the auditor may also consider the principles of
materiality outlined in Standards on Auditing.
12. The primary responsibility for the prevention and detection of fraud rests with both those
charged with governance of the entity and management. It is important that management,
with the oversight of those charged with governance, place a strong emphasis on fraud
prevention, which may reduce opportunities for fraud to take place, and fraud deterrence,
which could persuade individuals not to commit fraud because of the likelihood of detection
and punishment. This involves a commitment to creating a culture of honesty and ethical
behavior which can be reinforced by an active oversight by those charged with governance.
In exercising oversight responsibility, those charged with governance consider the
potential for override of controls or other inappropriate influence over the financial reporting
process, such as efforts by management to manage earnings in order to influence the
perceptions of analysts as to the entity’s performance and profitability.
13. “General IT controls are policies and procedures that relate to many applications and
support the effective functioning of application controls. They apply to mainframe,
miniframe, and end-user environments.
General IT-controls that maintain the integrity of information and security of data
commonly include controls over the following:”
(i) Data center and network operations
(ii) Program change
(iii) Access security
(iv) Application system acquisition, development, and maintenance (Business
Applications)
These are IT controls generally implemented to mitigate the IT specific risks and applied
commonly across multiple IT systems, applications and business proc esses. Hence,
General IT controls are known as “pervasive” controls or “indirect” controls. Let us now
learn about each of the General IT controls in more detail.
Data Center and Network Operations
Objective: To ensure that production systems are processed to meet financial reporting
objectives.

Activities:
1. Overall Management of Computer Operations Activities
2. Batch jobs – preparing, scheduling and executing
3. Backups – monitoring, storage & retention
4. Performance Monitoring – operating system, database and networks
5. Recovery from Failures – BCP, DRP
6. Help Desk Functions – recording, monitoring & tracking
7. Service Level Agreements – monitoring & compliance
8. Documentation – operations manuals, service reports
using spreadsheets and specialised audit tools viz., IDEA and ACL to perform the
following:
 Check completeness of data and population that is used in either test of controls or
substantive audit tests.
 Selection of audit samples – random sampling, systematic sampling.
 Re-computation of balances – reconstruction of trial balance from transaction data.
 Reperformance of mathematical calculations – depreciation, bank interest
calculation.
 Analysis of journal entries as required by SA 240.
 Fraud investigation.
 Evaluating impact of control deficiencies.
15. (i) Stratification – The process of dividing a population into sub-populations, each of
which is a group of sampling units which have similar characteristics (often monetary
value).
(ii) Tolerable misstatement – A monetary amount set by the auditor in respect of which
the auditor seeks to obtain an appropriate level of assurance that the monetary
amount set by the auditor is not exceeded by the actual misstatement in the
population.
(iii) Tolerable rate of deviation – A rate of deviation from prescribed internal control
procedures set by the auditor in respect of which the auditor seeks to obtain an

appropriate level of assurance that the rate of deviation set by the auditor is not
exceeded by the actual rate of deviation in the population.
16. In most of the circumstances, the evidence available is not conclusive and the auditor
always takes a calculated risk in giving his opinion. Even by undertaking hund red percent
checking of the transactions, the auditor does not derive absolute satisfaction. This state
of uneasiness led pragmatic auditors to adopt the statistical theory of sampling to derive
the necessary satisfaction about the state of affairs by checking only a part of the total
population of entries.
Auditors realised that they can derive good satisfaction by undertaking a much lesser
checking by adoption of this technique in the auditing process. It is a mathematical truth
that the sample, if picked purely on a random basis would reveal the features and
characteristics of the population.
By adopting the sampling technique, the auditor only checks a part of the whole mass of
transactions. The satisfaction he used to derive earlier, by checking all the transactions,
can be derived by a sample checking provided he can put reliance on the internal controls
and checks within the client’s organisation because they provide the reliability of the
records. Sampling is used as a part of Test of controls. Auditor will check few internal
controls and their operating effectiveness. Based on the conclusion derived, he can then
design the sample size for test of details (i.e checking of transactions and balances)
If the internal control is satisfactory in its design and implementation, a much smaller
sample can give the auditor the necessary reliability of the result he obtains.
On the other hand, if in certain areas controls are slack or not properly implemented, the
auditor may have to take a much larger sample for getting satisfactory result.
Another truth about the sampling technique should be noted. It can never bring complete
reliability; it cannot give precisely accurate results. It is a process of estimation. It may
have some error. What error is tolerable for a particular matter under examination is a
matter of the individual’s judgment in that particular case.
17. Techniques available as Substantive Analytical Procedures : The design of a
substantive analytical procedure is limited only by the availability of reliable data and the
experience and creativity of the audit team. Substantive analytical procedures generally
take one of the following forms:
Trend analysis — A commonly used technique is the comparison of current data with the
prior period balance or with a trend in two or more prior period balances. We evaluate
whether the current balance of an account moves in line with the trend established with
previous balances for that account, or based on an understanding of factors that may cause
the account to change.

Ratio analysis — Ratio analysis is useful for analysing asset and liability accounts as well
as revenue and expense accounts. An individual balance sheet account is difficult to
predict on its own, but its relationship to another account is often more predictable (e.g.,
the trade receivables balance related to sales). Ratios can also be compared over time or
to the ratios of separate entities within the group, or with the ratios of other companies in
the same industry.
Reasonableness tests — Unlike trend analysis, this analytical procedure does not rely on
events of prior periods, but upon non-financial data for the audit period under consideration
(e.g., occupancy rates to estimate rental income or interest rates to estimate interest
income or expense). These tests are generally more applicable to income statement
accounts and certain accrual or prepayment accounts.
Structural modelling — A modelling tool constructs a statistical model from financial
and/or non-financial data of prior accounting periods to predict current account balances
(e.g., linear regression).
18. Analytical Review Procedures: The following analytical review procedures may often be
helpful as a means of obtaining audit evidence regarding the various assertions relating to
trade receivables, loans and advances-
(i) comparison of closing balances of trade receivables, loans and advances with the
corresponding figures for the previous year;
(ii) comparison of the relationship between current year trade receivable balances and
the current year sales with the corresponding budgeted figures, if available;
(iii) comparison of actual closing balances of trade receivables, loans and advances with
the corresponding budgeted figures, if available;
(iv) comparison of current year’s ageing schedule with the corresponding figures for the
previous year;
(v) comparison of significant ratios relating to trade receivables, loans and advances with
similar ratios for other firms in the same industry, if available;
(vi) comparison of significant ratios relating to trade receivables, loans and advances with
the industry norms, if available.
19. Refund of General Insurance Premium paid: The refund of insurance premium may be
because of earlier provisional payment of premium or may be a policy might have been
cancelled at a later date. The auditor should take following steps while vouching such
refunds:
(i) Ascertain the reasons for refund of insurance premium.

(ii) Examine insurance policy or cover note to find out the amount of premium.
(iii) Verify advice of refund received from the insurance company. When refund is
admitted, the insurance company sends the advice. This will be evidence as a
covering letter to the cheque for the refund. Sometimes, a cheque is issued after a
receipt is sent in advance to the insurance company.
(iv) Scrutinise correspondence between the insurance company and the client.
(v) Check entries in the bank book or the bank statement. If necessary, the counterfoil of
the pay-in-slips can also be verified.
20. Documents to be seen in case of Securities:
Types of Security Documents etc. to be seen
(i) Shares and debentures The scrip and the endorsement thereon of the
name of the transferee, in the case of transfer.
(ii) Life Insurance Policy. Assignment of policy in favour of the lender, duly
registered with the insurer
(iii) Hypothecation of goods Deed of hypothecation or other document creating
the charge, together with a statement of inventories
held at the Balance Sheet date
21. Right of Access to secretarial records and correspondence:
1. Section 143(1) of the Companies Act, 2013 grants powers to the auditor that every
auditor has a right of access, at all times, to the books of account and vouchers of
the company kept at Registered or Head Office, branches and subsidiaries in the
case of a Holding Company for conducting the audit.
2. Further, he is also entitled to require from the officers of the company such
information and explanations which he considers necessary for the proper
performance of his duties as Auditor. Therefore, he has a statutory right to inspect
the secretarial records and correspondence.
3. In order to verify actions of the company and to vouch and verify some of the
transactions of the company, it is necessary for the auditor to refer to the decisions
of the shareholders and/or the directors of the company. It is, therefore, essential for
the auditor to refer to the secretarial records and correspondence which also includes
Minute book. In the absence of the same, the auditor may not be able to vouch/verify
certain transactions of the company.
4. The refusal to provide access to secretarial records and correspondence shall
constitute limitation of scope as far as the auditor’s duties are concerned.

5. The auditor may examine whether by performing alternative procedures, the auditor
can substantiate the assertions or else he shall have to either qualify the report or
give a disclaimer of opinion.
22. Ceiling on number of Audits:
1. Before appointment is given to any auditor, the company must obtain a certificate
from him to the effect that the appointment, if made, will not result in an excess holding
of company audit by the auditor concerned over the limit laid down in section
141(3)(g) of the Companies Act, 2013 which prescribes that a person who is in full
time employment elsewhere or a person or a partner of a firm holding appointment as
its auditor, if such person or partner is at the date of such appointment or
reappointment holding appointment as auditor of more than twenty companies other
than one person companies, dormant companies, small companies and private
companies having paid-up share capital less than ` 100 crore, shall not be eligible
for appointment as an Auditor of a Company.
2. In the case of a firm of auditors, it has been further provided that ‘specified number
of companies’ shall be construed as the number of companies speci fied for every
partner of the firm who is not in full time employment elsewhere. This limit of 20
company audits is per person. In the case of an audit firm having 3 partners, the
overall ceiling will be 3 × 20 = 60 company audits.
3. Sometimes, a chartered accountant is a partner in a number of auditing firms. In such
a case, all the firms in which he is partner or proprietor will be together entitled to 20
company audits on his account. Subject to the overall ceiling of company audits, how
they allocate the 20 audits between themselves is their affairs.
23. (i) Appointment of First Auditor of a Government Company: Section 139(7) of the
Companies Act, 2013 provides that in the case of a Government company or any
or by any State Government, or Governments, or partly by the Central Government
and partly by one or more State Governments, the first auditor shall be appointed by
the Comptroller and Auditor-General of India within 60 days from the date of
In case the Comptroller and Auditor-General of India does not appoint such auditor
within the above said period, the Board of Directors of the company shall appoint
such auditor within the next 30 days. Further, in the case of failure of the Board to
appoint such auditor within next 30 days, it shall inform the members of the company
who shall appoint such auditor within 60 days at an extraordinary general meeting.
Auditors shall hold office till the conclusion of the first annual general meeting.
Appointment of First Auditor of a Non-Government Company: As per Section
139(6) of the Companies Act, 2013, the first auditor of a company, other than a

Government company, shall be appointed by the Board of Directors within 30 days

from the date of registration of the company.
In the case of failure of the Board to appoint the auditor, it shall inform the members
of the company.
meeting appoint the auditor. Appointed auditor shall hold office till the conclusion of
(ii) Appointment of Subsequent Auditor of a Government Company: As per Section
139(5) of the Companies Act, 2013, in the case of a Government company or any
or by any State Government or Governments, or partly by the Central Government
and partly by one or more State Governments, the Comptroller and Auditor-General
of India shall, in respect of a financial year, appoint an auditor duly qualified to be
appointed as an auditor of companies under this Act, within a period of 180 days from
the commencement of the financial year, who shall hold office till the conclusion of
Appointment of Subsequent Auditor of a Non-Government Company: As per
section 139(1) of the Companies Act, 2013, every company shall, at the first annual
general meeting appoint an individual or a firm as an auditor who shall hold office
from the conclusion of that meeting till the conclusion of its sixth annual general
meeting and thereafter till the conclusion of every sixth meeting.
24. Unqualified Opinion:
1. An unqualified opinion should be expressed when the auditor concludes that the
financial statements give a true and fair view in accordance with the financial reporting
framework used for the preparation and presentation of the financial statements.
2. An unqualified opinion indicates, implicitly, that any changes in the accounting
principles or in the method of their application, and the effects thereof, have been
properly determined and disclosed in the financial statements.
3. An unqualified opinion also indicates that:
(i) the financial statements have been prepared using the generally accepted
accounting principles, which have been consistently applied;
(ii) the financial statements comply with relevant statutory requirements and
regulations; and
(iii) there is adequate disclosure of all material matters relevant to the proper
presentation of the financial information, subject to statutory requirements,
where applicable.

25. The requirements of SA 700 are aimed at addressing an appropriate balance between the
need for consistency and comparability in auditor reporting globally and the need to
increase the value of auditor reporting by making the information provided in the auditor’s
report more relevant to users. This SA promotes consistency in the auditor’s report but
recognizes the need for flexibility to accommodate particular circumstances of individual
jurisdictions. Consistency in the auditor’s report, when the audit has been conducted in
accordance with SAs, promotes credibility in the global marketplace by making more
readily identifiable those audits that have been conducted in accordance with globally
recognized standards. It also helps to promote the user’s understanding and to identify
unusual circumstances when they occur.
26. Presently, the Statutory Central Auditors (SCAs) have to furnish the following
reports in addition to their main audit report:
(a) Report on adequacy and operating effectiveness of Internal Controls over Financial
Reporting in case of banks which are registered as companies under the Companies
Act in terms of Section 143(3)(i) of the Companies Act, 2013 which is normally to be
given as an Annexure to the main audit report as per the Guidance Note on Audit of
Internal Financial Controls over Financial Reporting issued by the ICAI.
(b) Long Form Audit Report. (LFAR)
(c) Report on compliance with SLR requirements.
(d) Report on whether the treasury operations of the bank have been conducted in
accordance with the instructions issued by the RBI from time to time.
(e) Report on whether the income recognition, asset classification and provisioning have
been made as per the guidelines issued by the RBI from time to time.
(f) Report on whether any serious irregularity was noticed in the working of the bank
which requires immediate attention.
(g) Report on status of the compliance by the bank with regard to the implementation of
recommendations of the Ghosh Committee relating to frauds and malpractices and of the
recommendations of Jilani Committee on internal control and inspection/credit system.
(h) Report on instances of adverse credit-deposit ratio in the rural areas.
requires the major attention from the auditors.
In carrying out audit of advances, the auditor is primarily concerned with obtaining
evidence about the following:
(a) Amounts included in balance sheet in respect of advances which are outs tanding at
(b) Advances represent amount due to the bank.

(c) Amounts due to the bank are appropriately supported by loan documents and other
(d) There are no unrecorded advances.
(e) The stated basis of valuation of advances is appropriate and properly applied and the
recoverability of advances is recognised in their valuation.
(f) The advances are disclosed, classified and described in accordance with recognised
(g) Appropriate provisions towards advances have been made as per the RBI norms,
28. (a) Government audit has not only adopted the basic essentials of auditing as known and
practised in the profession to suit the requirements of governmental transactions but
has also added new concepts, techniques and procedures to the audit profession.
The U.N. Handbook on Government Auditing and Developing Countries defines
government auditing in a comprehensive manner which is as follows:
Government auditing is
 the objective, systematic, professional and independent examination
 of financial, administrative and other operations
 of a public entity
 made subsequently to their execution
 for the purpose of evaluating and verifying them,
 presenting a report containing explanatory comments on audit findings together
with conclusions and recommendations for future actions
 by the responsible officials
 and in the case of examination of financial statements, expressing the
appropriate professional opinion regarding the fairness of the presentation.
OBJECTIVES :-
(a) Accounting for Public Funds:-Government audit serves as a mechanism or
process for public accounting of government funds.
(b) Appraisal of Government policies:-It also provides public accounting of the
operational, management, programme and policy aspects of public
administration as well as accountability of the officials administering them.
(c) Base for Corrective actions:-Audit observations based on factual data collection
also serve to highlight the lapses of the lower hierarchy, thus helping supervisory
level officers to take corrective measures.

(b) Government audit is neither equipped nor intended to function as an investigating

agency, to pursue every irregularity or misdemeanour to its logical end. The main
objective of audit is a combination of ensuring accountability of administration to
legislature and functioning as an aid to administration. In India, the function of
Government Audit is discharged by the independent statutory authority of the
Comptroller and Auditor General through the agency of the Indian Audit and
Accounts Department. Audit is a necessary function to ensure accountability of the
executive to Parliament, and within the executives of the spending agencies to the
sanctioning or controlling authorities. The purpose or objectives of audit need to be
tested at the touchstone of public accountability. The Comptroller and Auditor General
(C&AG), in the discharge of his functions, watches that the various authorities act in
regard to financial matters in accordance with the Constitution and the laws made by
Parliament, and conform to the rules or orders made thereunder.

Chapter 9-Audit of Items of Financial Statements
In section 53 of the principal Act, for subsection (3), the following sub-section shall be
substituted, namely:— "(3) Where any company fails to comply with the provisions of this
section, such company and every officer who is in default shall be liable to a penalty which may
extend to an amount equal to the amount raised through the issue of shares at a discount or
five lakh rupees, whichever is less, and the company shall also be liable to refund all monie s
received with interest at the rate of twelve per cent. per annum from the date of issue of such
shares to the persons to whom such shares have been issued."
Penalty has been linked with amount raised through the issue of shares at a discount or a
penalty of ` 5 lakhs whichever is less. Further, in case of default, the company is required to
refund the amount alongwith 12% interest per annum.
(Reference to page no. is 9.8 and 9.9 of the study module 2)
PART – II A: Multiple Choice Questions based on Integrated Case Scenarios

Integrated Case Scenario-1
M/s JJ & associates having office in Chennai are statutory auditors under Companies Act, 2013
of a company viz. Sweet Aroma Private Limited engaged in business of obtaining and
manufacturing rice from paddy catering to both domestic as well as international market mainly
in Gulf nations. The company has a huge plant capacity for rice extraction in one of the states
in Northern India. Needless to state that inventories are in huge quantity in such type of business
consisting of raw material, work in progress and finished goods. The auditors want to obtain
sufficient appropriate audit evidence regarding inventories.
In above context, answer the following questions: -
1. Which of the following is most likely correct in relation to obtaining of sufficient appropriate
audit evidence regarding existence and condition of inventory?
(a) It is mandatory for the auditor to attend physical inventory counting on the date of
financial statements in all circumstances.
(b) Physical inventory counting may be attended by auditor on the date of financial
statement or at a date other than date of financial statements in his discretion
mandatorily in all circumstances.

(c) The attendance of auditors at physical inventory counting is impracticable due to time
and costs involved because of auditor’s office location vis-à-vis company’s plant
location. Hence, attendance at physical inventory counting may be skipped and
alternative audit procedures may be performed to obtain sufficient appropriate
evidence.
(d) The auditor shall attend at physical inventory counting unless impracticable.
However, issue of time and costs involved because of auditor’s offic e location vis-à-
vis company’s plant location is not a valid basis for skipping physical inventory
counting.
2. Below are given certain cluster of matters which are relevant in planning attendance of
auditor at physical inventory counting. Which of the following clusters consists of a likely
inappropriate combination?
(a) Nature of inventory, timing of physical inventory counting and stages of completion of
work in progress
(b) Nature of inventory, timing of physical inventory counting and valuation method of
inventory
(c) Nature of inventory, timing of physical inventory counting, considerations regarding
maintenance of a perpetual inventory system
(d) Risks of material misstatements related to inventory, nature of internal control
pertaining to inventory, considerations regarding maintenance of a perpetual
inventory system
3. Which of the following is the most likely logical sequence of steps in relation to attendance
at physical inventory counting by auditor?
(a) Observance of performance of management’s count procedures, inspection of
inventory, performing test counts and evaluation of management’s procedures for
recording and controlling results of physical inventory counting
(b) Observance of performance of management’s count procedures, performing test
counts, inspection of inventory and evaluation of management’s procedures for
(c) Performing test counts, inspection of inventory, Observance of performance of
management’s count procedures and evaluation of management’s procedures for
(d) Evaluation of management’s procedures for recording and controlling results of
physical inventory counting, Observance of performance of management’s count
procedures, inspection of inventory and performing test counts

4. During attendance at physical inventory counting, the auditor inspects inventory. Following
outcomes stated as I, II & III are given below of this inspection pro cedure: -
Outcome I --- Existence of inventory
Outcome II ---- Ownership of inventory
Outcome III ------ Condition of inventory
Which of following statements is most likely true?
(a) Outcomes I, II and III are all necessarily established after inspection.
(b) Only Outcomes I and III are established after inspection and Outcome II is never
established.
(c) Outcomes I and III are established after inspection. However, outcome II may not be
necessarily established.
(d) Outcome II and III are established after inspection. However, outcome I may not be
necessarily established.
5. It was observed by auditors that, out of total rice physically counted on 31 st March, 2020
about 67 quintals of rice belonged to M/s PQR, a proprietary concern which had sent paddy
to this company’s plant for extraction of rice. What would be treatment of this item in
financial statements of company?
(a) The value of 67 quintals rice would be reflected in company’s financial statements as
per method of valuation adopted by the company.
(b) The value of 67 quintals rice would be reflected in company’s financial statements as
per method of valuation adopted by the proprietary concern.
(c) The value of 67 quintals rice would not be reflected in company’s financial statements.
(d) The value of 67 quintals rice would be reflected in proprietary concern’s financial
statements as per method of valuation adopted by the company.
A partnership firm of Chartered Accountants, YZ and Associates were appointed as auditor of
company UV Private Limited. The financial year for which YZ and Associates were to audit
books of accounts of UV Private Limited began on 1 April, 2018 and ended on 31 March, 2019.
YZ and Associates consisted of four partners namely Mr. Y, Mr. Z, Mr. G and Mr. H.
While auditing books of accounts of UV Private Limited for the period beginning on 1 April, 2018
and ending on 31 March, 2019, one of the partners of YZ and Associates namely Mr. H took up
the expenses part for the purpose of audit.
The management of UV Private Limited had adopted various accounting policies and principles
related to expenses which Mr. H as auditor of UV Private Limited was unable to understand.
Some of the issues which Mr. H was unable to understand are mentioned as follows:

(1) Power and Fuel expenses paid for the months of April, 2019 and May, 2019 have been
included and shown as Power and Fuel expenses for the period beginning 1 April, 2018
and ending 31 March, 2019.
(2) Personal Rent Expenses of the son of one of the director, Mr. T of UV Private Limited have
been shown as Rent Expenses of business of UV Private Limited.
(3) Repair and Maintenance Expenses for the months of February 2019 and March 2019 were
still outstanding and were not shown in Balance Sheet of UV Private Limited.
(4) Repair and Maintenance Expenses for the financial year 1 April, 2018 to 31 March, 2019
were very high as compared to financial year 1 April, 2017 to 31 March, 2018. The auditor
Mr. H asked the appropriate authority about the reasons for such huge differences in
amounts of two financial years.
(5) While verifying the insurance expenses, the insurance policies were not shown to auditor
Mr. H.
The above mentioned five points were some of the issues which Mr. H was unable to
understand.
Answer the following questions:
1. As per the point number (1) mentioned in the above case, the Power and Fuel Expenses
paid for the months of April 2019 and May 2019 must be shown under asset side of balance
sheet of UV Private Limited as on 31 March, 2019 as:
(a) Outstanding Power and Fuel Expenses
(b) Prepaid Power and Fuel Expenses
(c) Power and Fuel Expenses
(d) Power and Fuel Expenses Payable
2. As per point number (2) mentioned above in the case, the Personal Rent Expenses of the
son of one of the director Mr. T were added to Rent Expenses of business of UV Private
Limited. The amount of personal rent expenses of the son of the director Mr. T must be:
(a) Subtracted from Rent Expenses of business of UV Private Limited
(b) Remain Added to Rent Expenses of business of UV Private Limited
(c) Again Added to Rent Expenses of business of UV Private Limited
(d) Subtracted twice from Rent Expenses of business of UV Private Limited
3. As per point number (3) mentioned above in the case, the Repair and Maintenance
Expenses outstanding for the months of February 2019 and March 2019 must be shown
under liability side of balance sheet of UV Private Limited as on 31 March, 2019 as:
(a) Prepaid Repair and Maintenance Expenses
(b) Repair and Maintenance Expenses

(c) Repair and Maintenance Expenses paid in advance

(d) Repair and Maintenance Expenses Payable
4. As per point number (4) mentioned in the case above, the auditor Mr. H asked the
appropriate authority for reasons of huge differences in the amount of two financial years
of repair and maintenance expenses. By appropriate authority Mr. H was referring to:
(a) All employees of UV Private Limited
(b) Management of UV Private Limited
(c) Members of UV Private Limited
(d) Any one director of UV Private Limited
5. As per point number (5) mentioned in the case above, in verifying insurance expenses the
insurance policies would provide auditor Mr. H as:
(a) Invalid Supporting
(b) No Supporting
(c) Lack of proper Supporting
(d) Valid Supporting
MCQ’s not based on Case Scenario
1. M/s KYC & Co. is a reputed Audit firm in Mumbai. They are appointed as Statutory Auditors
of Blessed Ltd. Which of the below is the responsibility of M/s KYC & Co.
(a) Preparation of financial statements
(b) Designing, implementation and maintenance of internal control system
(c) Reporting on true and fair view of financial statements
(d) Compliance with the applicable law and regulation
2. Mr. A, auditor and Mr. B, Finance Manager of XYZ Pvt Ltd are friends. Mr. A prepares the
audit report according to the wishes and directions of Mr. B. In this situation which essential
quality of the auditor has been compromised:
(a) Professional Competence
(b) Independence
(c) Professional Skepticism
(d) Due care
3. Mr. Salman, is an engagement partner of Khan & co. chartered accountants for an audit of
Lava Ltd., he died of a stroke on 30.09.2019 after completing the entire routine audit work
of Lava Ltd. Mr. Shoaib, one of the partners of Khan & Co. will be signing the accounts of
Lava Ltd. What is the course of action to be taken by Mr. Shoaib?

(a) Sign the accounts of Lava Ltd without reviewing the work of his partner
(b) Sign the balance sheet after reviewing the work of his partner
(c) Withdraw the audit as the person who has performed the audit is no more
(d) Issue an adverse report
4. Auditor Compares Gross Profit Ratio with that of Previous year and it is discovered that
there has been a fall in the ratio. This is an example of :
(a) Analytical Procedure
(b) Test of Controls
(c) Walk Through Test
(d) Audit Sampling
5. While conducting the audit of Saraswati Ltd, a packaged water making company, it was
found that a purchase of motor car was made in the name of the company. Your Article
Assistant has performed the following audit procedures. Identify which of the followi ng
procedure is incorrect.
(a) Ascertain whether the purchase of car has been properly authenticated.
(b) Check invoice of the car dealer to confirm the purchase price
(c) Examine registration with Transport Authorities to verify the ownership
(d) Ensure that the motor car has been included in the Closing inventory of goods
(i) Overall audit plan sets the scope, timing and direction of the audit, and guides the
development of the more detailed audit strategy.
(ii) The Constitution of India contains no specific provisions regarding the appointment,
salary and duties and powers of the C&AG. Moreover, the constitution does not
guarantee the independence of the C&AG of India.
(iii) When we are designing audit procedures to address an inherent risk or “what can go
wrong”, we consider the nature of the risk of material misstatement.
(iv) If an entity has a known number of employees at fixed rates of pay throughout the
period, there would be more need to perform tests of details on the payroll.
(v) The term “relative”, as defined under the Companies Act, 2013, means anyone who
is closely related to another.
(vi) According to Section 140(1), the auditor appointed under section 139 may be
removed from his office before the expiry of his term only by passing a Board
resolution.

(vii) In considering the qualitative aspects of the entity’s accounting practices, the aud itor
may not become aware of possible bias in management’s judgments.
(viii) One of the key principles of accrual basis of accounting requires that an asset’s cost
is proportionally expensed based on the period over which the asset is expected to
be used.
Chapter 1- Nature, Objective and Scope of Audit
2. (a) Professional skepticism refers to an attitude that includes a questioning mind, being
alert to conditions which may indicate possible misstatement due to error or fraud,
and a critical assessment of audit evidence. The auditor shall plan and perform an
audit with professional skepticism recognising that circumstances may exist that
cause the financial statements to be materially misstated. Explain giving examples.
(b) Both accounting and auditing are closely related with each other. Explain
which that partner is assigned. Explain clearly stating the meaning of engagement
partner and also the actions of the engagement partner and appropriate messages to
the other members of the engagement team, in taking responsibility for the overall
quality on each audit engagement.
(b) The firm should establish policies and procedures designed to provide it with
reasonable assurance that the policies and procedures relating to the system of quality
control are relevant, adequate, operating effectively and complied with in practice.
Such policies and procedures should include an ongoing consideration and evaluation
of the firm’s system of quality control, including a periodic inspection of a selection of
completed engagements.
Explain the purpose of monitoring compliance with quality control policies and
procedures
Chapter 2- Audit Strategy, Audit Planning and Audit Programme
4. (a) The auditor shall plan the nature, timing and extent of direction and supervision of
engagement team members and the review of their work. The nature, timing and
extent of the direction and supervision of engagement team members and review of
their work vary depending on many factors. Explain giving examples.
(b) The auditor shall document the overall audit strategy, the audit plan and any
significant changes made to the overall audit strategy or the audit plan. Explain in
detail giving examples.
5. (a) Evolving one audit programme applicable to all business under all circumstances is
not practicable. Explain clearly stating in detail the meaning of audit programme.

(b) In most of the assertions much of the evidence be drawn and each one should be
considered and weighed to ascertain its weight to prove or disprove the assertion. An
auditor picks up evidence from a variety of fields.Analyse and explain with the help of
examples.
Chapter 3- Audit Documentation and Audit Evidence
6. (a) An important factor in determining the form, content and extent of audit documentation of
significant matters is the extent of professional judgment exercised in performing the
work and evaluating the results. Explain stating clearly the examples of significant
matters.
(b) Sufficiency is the measure of the quantity of audit evidence. The quantity of audit
evidence needed is affected by the auditor’s assessment of the risks of misstatement
and also by the quality of such audit evidence. Obtaining more audit evidence,
however, may not compensate for its poor quality. Explain also stating the factors
affecting auditor’s judgment as to sufficiency of audit evidence.
7. (a) There are specific accounting and disclosure requirements for related party relationships,
transactions and balances to enable users of the financial statements to understand
their nature and effects on the financial statements.
Explain in detail stating clearly the auditor’s responsibility in the above context.
(b) The nature and timing of the audit procedures to be used may be affected by the fact
that some of the accounting data and other information may be available only in
electronic form or only at certain points or periods in time. Explain with the help of
examples.
8. (a) A higher level of assurance may be sought about the operating effectiveness of controls
when the approach adopted consists primarily of tests of controls. Explain and also
state when will the auditor design and perform tests of controls to obtain sufficient
appropriate audit evidence as to the operating effectiveness of relevant controls.
(b) When more persuasive audit evidence is needed regarding the effectiveness of a
control, it may be appropriate to increase the extent of testing of the control as well
as the degree of reliance on controls. Discuss the matters the auditor may consider in
determining the extent of test of controls.
Chapter 4- Risk Assessment and Internal Control
9. (a) The risks of material misstatement may exist at the financial statement level and
assertion level. Explain the two levels.
(b) For the purpose of Identifying and assessing the risks of material misstatement, the
auditor shall identify risks throughout the process of obtaining an understanding of
the entity and its environment. Explain in detail along with other relevant points.

10. (a) Much of the information obtained by the auditor’s inquiries is obtained from
management and those responsible for financial reporting. However, the auditor may
also obtain information, or a different perspective in identifying risks of material
misstatement, through inquiries of others within the entity and other employees with
different levels of authority.
Explain with the help of examples.
responses to the assessed risks. Explain in detail.
Chapter 5- Fraud and Responsibilities of the Auditor in this Regard.
11. Explain what an auditor is expected to do if, as a result of a misstatement resulting from
fraud or suspected fraud, the auditor encounters exceptional circumstances that bring into
question the auditor’s ability to continue performing the audit.
12. As per sub-section (12) of section 143 of the Companies Act, 2013, if an auditor of a
company in the course of the performance of his duties as auditor, has reason to believe
that an offence of fraud involving such amount or amounts as may be prescribed, is being
or has been committed in the company by its officers or employees, the auditor shall report
the matter to the Central Government within such time and in such manner as may be
prescribed.
In this regard, Rule 13 of the Companies (Audit and Auditors) Rules, 2014 has been
prescribed. Sub-rule (1) of the said rule states that if an auditor of a company, in the course
of the performance of his duties as statutory auditor, has reason to believe that an offence
of fraud, which involves or is expected to involve individually an amount of ` 1 crore or
above, is being or has been committed against the company by its officers or employees,
the auditor shall report the matter to the Central Government.
Explain the manner of reporting the matter to the Central Government in the above context.
Chapter 6- Audit in an Automated Environment
13. With the increasing adoption of information technology, business today relies on software
systems and applications more than ever. Many of these IT systems generate and process
data that is used in the preparation of financial statements of a company. The auditors also
often rely on the data and reports that are generated from these systems. Explain stating
clearly the meaning of Automated environment with example.
14. When a business operates in a more automated environment it is likely that we, as auditors,
will see several business functions and activities happening within the systems. Explain
which of the aspect you will consider relevant as an auditor.


15. Sampling risk is the risk that the auditor’s conclusion based on a sample may be di fferent
Sampling risk leads to erroneous conclusions. Explain in detail distinguishing it from non-
sampling risk with examples.
16. Explain the factors that should be considered for deciding upon the extent of checking on
a sampling plan.
17. In the planning stage, analytical procedures assist the auditor in understanding the client’s
business and in identifying areas of potential risk. Explain
18. The decision about which audit procedures to perform, including whether to use
substantive analytical procedures, is based on the auditor’s judgment. Explain
19. How will you vouch/verify the following?
(a) Trademarks and copyrights
(b) Investments income in the case of charitable institutions
(c) Contingent liabilities
(d) Leasehold rights
20. A significant and important audit activity is to contact banks/ financial institution s directly
and ask them to confirm the amounts held in current accounts, deposit accounts, EEFC
account, cash credit accounts, etc. as at the end of the reporting period under audit.
Explain the audit procedure in this context.
21. Rule 3 of CAAR, 2014 prescribes the manner and procedure of selection and appointment
of auditors. Explain that procedure in detail.
22. At the AGM of HDB Pvt. Ltd., Mr. R was appointed as the statutory auditor. He, however,
resigned after 3 months since he wanted to pursue his career in banking sector. The Board
of Director has appointed Mr. L as the statutory auditor in board meeting within 30 days.
Comment on the matter with reference to the provisions of Companies Act, 2013.
23. M/s. ABC & Co. is an Audit firm, having partners CA. A, CA. B and CA. C. The firm has
been offered the appointment as an Auditor of XYZ Ltd. for the Financial Year 2019 -20.
Mr. D, the relative of CA. A, is holding 25,000 shares (face value of ` 10 each) in XYZ Ltd.
having market value of ` 90,000. Are M/s. ABC & Co. qualified to be appointed as Auditors
of XYZ Ltd.?


24. Define Emphasis of Matter Paragraph and how it should be disclosed in the Independent
Auditor's Report?
25. The auditor’s report shall include a section, directly following the Opinion section, with the
heading “Basis for Opinion”. Explain what is included in this “Basis for Opinion” section.
Chapter 12- Bank Audit
26. Distinguish between Primary Security and Collateral Security with reference to audit of
Banks. Also give examples of most common types of securities accepted by the Banks.
27. Depending on the nature of the item concerned, creation of security may take the form of a
mortgage, pledge, hypothecation, assignment, set-off or lien. Explain with specific
reference to Audit of Banks.
28. (a) Audit against rules and orders aims to ensure that the expenditure conforms to the
relevant provisions of the Constitution and of the laws and rules made thereunder. The
job of audit is to see that these rules, regulations and orders are applied properly by the
subordinate authorities. It is, however, not the function of audit to prescribe what such rules,
regulations and orders shall be. Analyse and Explain
(b) The auditor of a Govt Company has to ensure that each item of expenditure is covered
by a sanction, either general or special, of the competent authority. Explain
SUGGESTED ANSWERS / HINTS
ANSWERS - MULTIPLE CHOICE QUESTIONS- Integrated Case Scenario-1

1. (d)
2. (b)
3. (d)
4. (c)
5. (c)
1. (b)
2. (a)
3. (d)
4. (b)
5. (d)

General MCQ’s
1 (c)
2 (b)
3 (b)
4 (a)
5 (d)
DESCRIPTIVE ANSWERS
1. (i) Incorrect: Overall audit strategy sets the scope, timing and direction of the audit, and
guides the development of the more detailed audit plan.
(ii) Incorrect: The Constitution of India contains specific provisions regarding the
appointment, salary and duties and powers of the C&AG. The constitution guarantees
the independence of the C&AG of India by prescribing that he shall be appointed by
the President of India and shall not be removed from office except on the ground of
proven mis-behaviour or incapacity.
(iii) Correct : When we are designing audit procedures to address an inherent risk or
“what can go wrong”, we consider the nature of the risk of material misstatement in
order to determine if a substantive analytical procedure can be used to obtain audit
evidence. When inherent risk is higher, we may design tests of details to address the
higher inherent risk. When significant risks have been identified, audit evidence
obtained solely from substantive analytical procedures is unlikely to be sufficient.
(iv) Incorrect: If an entity has a known number of employees at fixed rates of pay
throughout the period, it may be possible for the auditor to use this data to estimate the
total payroll costs for the period with a high degree of accuracy, thereby providing audit
evidence for a significant item in the financial statements and reducing the need to
perform tests of details on the payroll.
(v) Incorrect: The term “relative”, as defined under the Companies Act, 2013, means
anyone who is related to another as members of a Hindu Undivided Family; husband
and wife; Father (including step- father), Mother (including step-mother), Son
(including step- son), Son’s wife, Daughter, Daughter’s husband, Brother (including
step- brother), Sister (including step-sister).
(vi) Incorrect: According to Section 140(1), the auditor appointed under section 139
may be removed from his office before the expiry of his term only by a special
resolution of the company, after obtaining the previous approval of the Central
Government in that behalf as per Rule 7 of CAAR, 2014
(vii) Incorrect: In considering the qualitative aspects of the entity’s accounting practices,
the auditor may become aware of possible bias in management’s judgments. The

auditor may conclude that lack of neutrality together with uncorrected misstatements
causes the financial statements to be materially misstated.
(viii) correct: One of the key principles of accrual basis of accounting requires that an
asset’s cost is proportionally expensed based on the period over which the asset is
expected to be used. Both depreciation and amortization are methods that are used
to prorate the cost of a specific type of asset over its useful life. Depreciation
represents systematic allocation of the depreciable value of an item of PPE over its
useful life while amortisation represents systematic allocation of the depreciable
amount of an intangible asset over its useful life.
2. (a) The auditor shall plan and perform an audit with professional skepticism recognising
that circumstances may exist that cause the financial statements to be mater ially
misstated.
Professional skepticism includes being alert to, for example:
 Audit evidence that contradicts other audit evidence obtained.
 Information that brings into question the reliability of documents and
responses to inquiries to be used as audit evidence.
 Conditions that may indicate possible fraud.
 Circumstances that suggest the need for audit procedures in addition to
those required by the SAs.
 Maintaining professional skepticism throughout the audit is necessary if the
auditor is to reduce the risks of:
 Overlooking unusual circumstances.
 Over generalising when drawing conclusions from audit observations.
 Using inappropriate assumptions in determining the nature, timing, and extent
of the audit procedures and evaluating the results thereof.
(b) Both accounting and auditing are closely related with each other as auditing reviews
the financial statements which are nothing but a result of the overall accounting
process. It naturally calls on the part of the auditor to have a thorough and sound
knowledge of generally accepted principles of accounting before he can review the
financial statements. In fact, auditing as a discipline is also closely related with various
other disciplines as there is lot of linkages in the work which is done by an auditor in his
day-to-day activities. To begin with, it may be noted that the discipline of auditing itself
is a logical construct and everything done in auditing must be bound by the rules of
logic. Ethical precepts are the basis on which the foundation of the entire accounting
profession rests. The knowledge of language is also considered essential in the field
of auditing as the auditor shall be required to communicate, both in writing as well as
orally, in day-to-day work.

which that partner is assigned.
The actions of the engagement partner and appropriate messages to the other
each audit engagement, emphasise:
(a) The importance to audit quality of:
(i) Performing work that complies with professional standards and regulatory
and legal requirements;
(ii) Complying with the firm’s quality control policies and procedures as
applicable;
(iii) Issuing auditor’s reports that are appropriate in the circumstances; and
(iv) The engagement team’s ability to raise concerns without fear of reprisals;
and
(b) The fact that quality is essential in performing audit engagements.
Engagement partner refers to the partner or other person in the firm who is
responsible for the audit engagement and its performance, and for the auditor’s
report that is issued on behalf of the firm, and who, where required, has the
appropriate authority from a professional, legal or regulatory body.
(b) The purpose of monitoring compliance with quality control policies and procedures is
to provide an evaluation of:
(a) Adherence to professional standards and regulatory and legal requirements;
(b) Whether the quality control system has been appropriately designed and
effectively implemented; and
(c) Whether the firm’s quality control policies and procedures have been appropriately
applied, so that reports that are issued by the firm or engagement partners are
Follow-up by appropriate firm personnel so that necessary modifications are promptly
made to the quality control policies and procedures.
4. (a) The auditor shall plan the nature, timing and extent of direction and supervision of
engagement team members and the review of their work.
The nature, timing and extent of the direction and supervision of engagement team
1. The size and complexity of the entity.
2. The area of the audit.

3. The assessed risks of material misstatement

Example
An increase in the assessed risk of material misstatement for a given area of the
audit ordinarily requires a corresponding increase in the extent and timeliness
of direction and supervision of engagement team members, and a more detailed
4. The capabilities and competence of the individual team members performing the
audit work.
Example
We may have identified a problem related to the production process that raised
concerns about inventory obsolescence. After obtaining an understanding of
the entity’s process that raised concerns about inventory obsolescence (which
we had identified as a significant class of transactions), we concluded that
additional tests of details were required. Therefore, the senior will likely take
part, along with the team, in the discussions with management about the
provision for obsolescence and examine related documentation supporting the
provision, rather than just reading the memo on file. These procedures should
be completed as the work is being performed rather than as an after the fact
review. The extent of the senior’s involvement requires judgement, taking into
consideration the complexity of the area and the experience of the team.
(b) The auditor shall document:
(a) the overall audit strategy;
(b) the audit plan; and
(c) any significant changes made during the audit engagement to the overall audit
strategy or the audit plan, and the reasons for such changes.
The documentation of the overall audit strategy is a record of the key decisions
considered necessary to properly plan the audit and to communicate significant
matters to the engagement team.
Example
The auditor may summarize the overall audit strategy in the form of a memorandum
that contains key decisions regarding the overall scope, timing and conduct of the
audit.
The documentation of the audit plan is a record of the planned nature, timing and
extent of risk assessment procedures and further audit procedures at the assertion
level in response to the assessed risks. It also serves as a record of the proper planning
of the audit procedures that can be reviewed and approved prior to their performance.

The auditor may use standard audit programs and/or audit completion checklists,
tailored as needed to reflect the particular engagement circumstances.
A record of the significant changes to the overall audit strategy and the audit plan,
and resulting changes to the planned nature, timing and extent of audit procedures,
explains why the significant changes were made, and the overall strategy and audit plan
finally adopted for the audit. It also reflects the appropriate response to the significant
changes occurring during the audit.
Example
The following things should form part of auditor’s documentation:
 A summary of discussions with the entity’s key decision makers.
 Documentation of audit committee pre-approval of services, where required.
 Audit documentation access letters.
 Other communications or agreements with management or those charged with
governance regarding the scope, or changes in scope, of our services.
 Auditor’s report on the entity’s financial statements.
 Other reports as specified in the engagement agreement (e.g., debt covenant
compliance letter).
5. (a) Businesses vary in nature, size and composition; work which is suitable to one business
may not be suitable to others; efficiency and operation of internal controls and the
exact nature of the service to be rendered by the auditor are the other factors that
vary from assignment to assignment. On account of such variations, evolving one
audit programme applicable to all business under all circumstances is not practicable.
However, it becomes a necessity to specify in detail in the audit programme the nature
of work to be done so that no time will be wasted on matters not pertinent to the
engagement and any special matter or any specific situation can be taken care of.
It is desirable that in respect of each audit and more particularly for bigger audits an
audit programme should be drawn up. Audit programme is a list of examination and
verification steps to be applied and set out in such a way that the inter-relationship of
one step to another is clearly shown and designed, keeping in view the assertions
discernible in the statements of account produced for audit or on the basis of an
appraisal of the accounting records of the client.
Definition : An audit programme consists of a series of verification procedures to be
applied to the financial statements and accounts of a given company for the purpose of
obtaining sufficient evidence to enable the auditor to express an informed opinion on
such statements.

In other words, an audit programme is a detailed plan of applying the audit procedures
in the given circumstances with instructions for the appropriate techniques to be
adopted for accomplishing the audit objectives.
(b) In most of the assertions much of the evidence be drawn and each one should be
considered and weighed to ascertain its weight to prove or disprove the assertion. In
this process, an auditor would be in a position to identify the evidence that brings the
highest satisfaction to him about the appropriateness or otherwise of the assertion.
An auditor picks up evidence from a variety of fields and it is generally of the following
broad types:
(a) Documentary examination,
(b) Physical examination,
(c) Statements and explanation of management, officials and employees,
(d) Statements and explanations of third parties,
(e) Arithmetical calculations by the auditor,
(f) State of internal controls and internal checks,
(g) Inter-relationship of the various accounting data,
(h) Subsidiary and memorandum records,
(i) Minutes,
(j) Subsequent action by the client and by others.
Example
1. For cash in hand, the best evidence is ‘count’
2. For investment pledged with a bank, the banker’s certificate.
3. For verifying assertions about book debts, the client’s ledger invoices, debit
notes, credit notes, monthly accounts statement sent to the customers are
all evidence: some of these are corroborative, other being complementary.
In addition, balance confirmation procedure is often resorted to, to obtain
greater satisfaction about the reliability of the assertion.
The auditor, however, has to place appropriate weight on each piece of evidence
and accordingly should prescribe the priority of verification. It is true that in al l
cases one procedure may not bring the highest satisfaction and it may be
dangerous for the auditor to ignore any evidence that is available. By the word
“available” we do not mean that the evidence available with the client is the only
available evidence. The auditor should know what normally should be available in
the context of the transaction having regard to the circumstances and usage.

6. (a) Judging the significance of a matter requires an objective analysis of the facts and
circumstances.
Examples of significant matters include:
 Matters that give rise to significant risks.
 Results of audit procedures indicating (a) that the financial statements could be
materially misstated, or (b) a need to revise the auditor’s previous assessment
of the risks of material misstatement and the auditor’s responses to those risks.
 Circumstances that cause the auditor significant difficulty in applying necessary
audit procedures.
 Findings that could result in a modification to the audit opinion or the inclusion
of an Emphasis of Matter Paragraph in the auditor’s report.
An important factor in determining the form, content and extent of audit documentation of
significant matters is the extent of professional judgement exercised in performing the
work and evaluating the results. Documentation of the professional judgements
made, where significant, serves to explain the auditor’s conclusions and to reinforce
the quality of the judgement. Such matters are of particular interest to those responsible
for reviewing audit documentation, including those carrying out subsequent audits,
when reviewing matters of continuing significance (for example, when performing a
retrospective review of accounting estimates).
(b) Sufficiency is the measure of the quantity of audit evidence. The quantity of audit
evidence needed is affected by the auditor’s assessment of the risks of misstatement
(the higher the assessed risks, the more audit evidence is likely to be required) and
also by the quality of such audit evidence (the higher the quality, the less may be
required). Obtaining more audit evidence, however, may not compensate for its poor
quality. Auditor’s judgement as to sufficiency may be affected by the factors
such as:
(i) Materiality
(ii) Risk of material misstatement
(iii) Size and characteristics of the population.
(a) Materiality may be defined as the significance of classes of transactions,
account balances and presentation and disclosures to the users of the
financial statements. Less evidence would be required in case assertions
are less material to users of the financial statements. But on the other hand
if assertions are more material to the users of the financial statements, more
evidence would be required.
(2) Risk of material misstatement may be defined as the risk that the
financial statements are materially misstated prior to audit. This consists of

two components described as follows at the assertion level (a) Inherent

risk—The susceptibility of an assertion to a misstatement that could be
material before consideration of any related controls. (b) Control risk—The
risk that a misstatement that could occur in an assertion that could be
material will not be prevented or detected and corrected on a timely basis
by the entity’s internal control. Less evidence would be required in case
assertions that have a lower risk of material misstatement. But on the other
hand if assertions have a higher risk of material misstatement, more
evidence would be required.
(c) Size of a population refers to the number of items included in the population. Less
evidence would be required in case of smaller, more homogeneous population but on
the other hand in case of larger, more heterogeneous populations, more evidence
would be required.
7. (a) There are specific accounting and disclosure requirements for related party relationships,
transactions and balances to enable users of the financial statements to understand
their nature and effects on the financial statements.
The auditor has a responsibility to perform audit procedures to identify, assess and
respond to the risks of material misstatement arising from the entity’s failure to
appropriately account for related party relationships, transactions or balances.
The auditor needs to obtain an understanding of the entity’s related party relationships
and transactions sufficient to be able to conclude whether the financial statements,
insofar as they are affected by those relationships and transactions:
(a) Achieve a true and fair presentation ; or
(b) Are not misleading (for compliance frameworks).
In addition, an understanding of the entity’s related party relationships and transactions
is relevant to the auditor’s evaluation of whether fraud risk factors are present as
required by SA 240. This is because fraud may be more easily committed through
related parties.
Owing to the inherent limitations of an audit, there is an unavoidable risk that some
material misstatements of the financial statements may not be detected, even though
the audit is properly planned and performed in accordance with the SAs. In the context
of related parties, the potential effects of inherent limitations on the auditor’s ability to
detect material misstatements are greater for such reasons as the following:
 Management may be unaware of the existence of all related party
relationships.
 Related party relationships may present a greater opportunity for collusion,
concealment or manipulation by management.

Planning and performing the audit with professional skepticism as required by SA 200
is therefore particularly important in this context, given the potential for undis closed
related party relationships and transactions. The requirements in this SA are designed
to assist the auditor in identifying and assessing the risks of material misstatement
associated with related party relationships and transactions, and in designi ng audit
procedures to respond to the assessed risks.
(b) The nature and timing of the audit procedures to be used may be affected by the fact
that some of the accounting data and other information may be available only in
electronic form or only at certain points or periods in time. For example, source
documents, such as purchase orders and invoices, may exist only in electronic form
when an entity uses electronic commerce, or may be discarded after scanning when an
entity uses image processing systems to facilitate storage and reference.
Certain electronic information may not be retrievable after a specified period of time,
for example, if files are changed and if backup files do not exist. Accordingly, the
auditor may find it necessary as a result of an entity’s data retention policies to request
retention of some information for the auditor’s review or to perform audit procedures at
a time when the information is available.
8. (a) Test of controls may be defined as an audit procedure designed to evaluat e the
operating effectiveness of controls in preventing, or detecting and correcting, material
misstatements at the assertion level.
The auditor shall design and perform tests of controls to obtain sufficient appropriate
audit evidence as to the operating effectiveness of relevant controls when:
(a) The auditor’s assessment of risks of material misstatement at the assertion
level includes an expectation that the controls are operating effectively (i.e., the
auditor intends to rely on the operating effectiveness of controls in determining
the nature, timing and extent of substantive procedures); or
(b) Substantive procedures alone cannot provide sufficient appropriate audit
evidence at the assertion level.
A higher level of assurance may be sought about the operating effectiveness of controls
when the approach adopted consists primarily of tests of controls, in particular where it
is not possible or practicable to obtain sufficient appropriate audit evidence only from
substantive procedures.
(b) When more persuasive audit evidence is needed regarding the effectiveness of a
control, it may be appropriate to increase the extent of testing of the control as well
as the degree of reliance on controls. Matters the auditor may consider in determining
the extent of test of controls include the following:
1. The frequency of the performance of the control by the entity during the period.
2. The length of time during the audit period that the auditor is relying on the

operating effectiveness of the control.

3. The expected rate of deviation from a control.
4. The relevance and reliability of the audit evidence to be obtained regarding the
operating effectiveness of the control at the assertion level.
5. The extent to which audit evidence is obtained from tests of other controls related
to the assertion.
9. (a) Risks of Material Misstatement at Two levels
The risks of material misstatement may exist at two levels:
(i) The overall financial statement level- Risks of material misstatement at the
overall financial statement level refer to risks of material misstatement that relate
pervasively to the financial statements as a whole and potentially affect many
assertions.
(ii) The assertion level for classes of transactions, account balances, and
disclosures-Risks of material misstatement at the assertion level are assessed
in order to determine the nature, timing, and extent of further audit procedures
necessary to obtain sufficient appropriate audit evidence. This evidence enables
the auditor to express an opinion on the financial statements at an acceptably
low level of audit risk.
(b) For the purpose of Identifying and assessing the risks of material misstatement, the
auditor shall:
(a) Identify risks throughout the process of obtaining an understanding of the entity
and its environment, including relevant controls that relate to the risks, and by
considering the classes of transactions, account balances, and disclosures in
the financial statements;
(b) Assess the identified risks, and evaluate whether they relate more pervasively to
the financial statements as a whole and potentially affect many assertions;
(c) Relate the identified risks to what can go wrong at the assertion level, taking
account of relevant controls that the auditor intends to test; and
(d) Consider the likelihood of misstatement, including the possibility of multiple
misstatements, and whether the potential misstatement is of a magnitude that
could result in a material misstatement.
10. (a) Inquiries of Management and Others Within the Entity: Much of the information
obtained by the auditor’s inquiries is obtained from management and those
responsible for financial reporting. However, the auditor may also obtain information,
or a different perspective in identifying risks of material misstatement, through
inquiries of others within the entity and other employees with different levels of
authority.

Examples
 Inquiries directed towards those charged with governance may help the
auditor understand the environment in which the financial statements are
prepared.
 Inquiries directed toward internal audit personnel may provide information
about internal audit procedures performed during the year relating to the design
and effectiveness of the entity’s internal control and whether management
has satisfactorily responded to findings from those procedures.
 Inquiries of employees involved in initiating, processing or recording complex
or unusual transactions may help the auditor to evaluate the appropriateness
of the selection and application of certain accounting policies.
 Inquiries directed toward in-house legal counsel may provide information
about such matters as litigation, compliance with laws and regulations,
knowledge of fraud or suspected fraud affecting the entity, warranties, post-
sales obligations, arrangements (such as joint ventures) with business
partners and the meaning of contract terms.
 Inquiries directed towards marketing or sales personnel may provide
information about changes in the entity’s marketing strategies, sales trends,
or contractual arrangements with its customers.
 Inquiries directed to the risk management function (or those performing such
roles) may provide information about operational and regulatory risks t hat
may affect financial reporting.
 Inquiries directed to information systems personnel may provide information
about system changes, system or control failures, or other information
system- related risks.
responses to the assessed risks. Analytical procedures performed as risk assessment
procedures may include both financial and non-financial information, for example, the
relationship between sales and square footage of selling space or volume of goods
sold.
Analytical procedures may help identify the existence of unusual transactions or
events, and amounts, ratios, and trends that might indicate matters that have audit
implications. Unusual or unexpected relationships that are identified may assist the
auditor in identifying risks of material misstatement, especially risks of material
misstatement due to fraud.

However, when such analytical procedures use data aggregated at a high level (which
may be the situation with analytical procedures performed as risk assessment
procedures), the results of those analytical procedures only provide a broad initial
indication about whether a material misstatement may exist. Accordingly, in such
cases, consideration of other information that has been gathered when identifying the
risks of material misstatement together with the results of such analytical procedures
may assist the auditor in understanding and evaluating the results of the analytical
procedures.
11. If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor
encounters exceptional circumstances that bring into question the auditor’s ability to
continue performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in the circumstances,
including whether there is a requirement for the auditor to report to the person or
persons who made the audit appointment or, in some cases, to regulatory authorities;
(b) Consider whether it is appropriate to withdraw from the engagement, where
withdrawal is possible under applicable law or regulation; and
(i) Discuss with the appropriate level of management and those charged with
governance the auditor’s withdrawal from the engagement and the reasons for
the withdrawal; and
(ii) Determine whether there is a professional or legal requirement to report to the
person or persons who made the audit appointment or, in some cases, to
regulatory authorities, the auditor’s withdrawal from the engagement and the
12. The manner of reporting the matter to the Central Government is as follows:

(d) the report shall be sent to the Secretary, Ministry of Corporate Affairs in a sealed
cover by Registered Post with Acknowledgement Due or by Speed Post followed by an
e-mail in confirmation of the same;
13. With the increasing adoption of information technology, business today relies on software
systems and applications more than ever. Many of these IT systems generate and process
data that is used in the preparation of financial statements of a company. The auditors also
often rely on the data and reports that are generated from these systems. In this context,
it is critical to understand the IT specific risks that could potentially impact the integrity and
reliability of financial transactions and data flowing through a company’s systems.
An automated environment basically refers to a business environment where the processes,
operations, accounting and even decisions are carried out by using computer systems – also
known as Information Systems (IS) or Information Technology (IT) systems. Nowadays, it
is very common to see computer systems being used in almost every type of business.
Example
Think about how banking transactions are carried out using ATMs (Automated Teller
Machines), or how tickets can be purchased using “apps” on mobile phones, etc. In these
examples, you can see how these computer systems enable us to transact business at any
time and any day.
14. When a business operates in a more automated environment it is likely that we, as auditors,
will see several business functions and activities happening within the systems. As an
auditor, there is a need to consider the following aspects :
 Computation and Calculations are automatically carried out (for example, bank
interest computation and inventory valuation).
 Accounting entries are posted automatically (for example, sub -ledger to GL
postings are automatic).
 Business policies and procedures, including internal controls, are applied
automatically (for example, delegation of authority for journal approvals, customer
credit limit checks are performed automatically).
 Reports used in business are produced from systems. Management and other
stakeholders rely on these reports and information produced (for exam ple,
debtors ageing report).

 User access and security are controlled by assigning system roles to users ( for
example, segregation of duties can be enforced effectively).
15. Sampling Risk. The risk that the auditor’s conclusion based on a sample may be different
Sampling risk can lead to two types of erroneous conclusions:
(i) In the case of a test of controls, that controls are more effective than they actually are,
or in the case of a test of details, that a material misstatement does not exist when in
fact it does. The auditor is primarily concerned with this type of erroneous conclusion
because it affects audit effectiveness and is more likely to lead to an inappropriate
audit opinion.
(ii) In the case of a test of controls, that controls are less effective than they actually are,
or in the case of a test of details, that a material misstatement exists when in fact it
does not. This type of erroneous conclusion affects audit efficiency as it would
usually lead to additional work to establish that initial conclusions were incorrect.
Non-Sampling Risk. The risk that the auditor reaches an erroneous conclusion for any
reason not related to sampling risk.
Example
Examples of non-sampling risk include use of inappropriate audit procedures, or
misinterpretation of audit evidence and failure to recognize a misstatement or
deviation.
Sources of Non Sampling risk are :
Human Mistakes Misinterpreting the sample results
Applying audit procedures not appropriate to the
objectives of audit
Relying on erroneous information e.g. erroneous
confirmation
Non sampling risk can never be mathematically measured.

16. The factors that should be considered for deciding upon the extent of checking on a
sampling plan are following:
(i) Size of the organisation under audit.
(ii) State of the internal control.
(iii) Adequacy and reliability of books and records.
(iv) Tolerable error range.
(v) Degree of the desired confidence.

17. In the planning stage, analytical procedures assist the auditor in understanding the client’s
business and in identifying areas of potential risk by indicating aspects of and
developments in the entity’s business of which he was previously unaware. Thi s
information will assist the auditor in determining the nature, timing and extent of his other
audit procedures. Analytical procedures in planning the audit use both financial data and
non-financial information, such as number of employees, square feet of selling space,
volume of goods produced and similar information.
18. The auditor’s substantive procedures at the assertion level may be tests of details,
substantive analytical procedures, or a combination of both. The decision about which audit
procedures to perform, including whether to use substantive analytical procedures, is
based on the auditor’s judgment about the expected effectiveness and efficiency of the
available audit procedures to reduce audit risk at the assertion level to an acceptabl y low
level.
The auditor may inquire of management as to the availability and reliability of information
needed to apply substantive analytical procedures, and the results of any such analytical
procedures performed by the entity. It may be effective to use analytical data prepared by
management, provided the auditor is satisfied that such data is properly prepared.
19. (a) Trademarks and Copyrights:
(i) Obtain schedule of Trade Marks and Copyrights duly signed by the responsible
officer and scrutinise the same and confirm that all of them are shown in the
Balance Sheet.
(ii) Examine the written agreement in case of assignment of Copyrights and
Assignment Deed in case of transfer of trade marks. Also ensure that trademarks
and copyrights have been duly registered.
(iii) Verify existence of copyright by reference to contract between the author & the
entity and note down the terms of payment of royalty.
(iv) See that the value has been determined properly and the costs incurred for the
purpose of obtaining the trademarks and copyrights have been capitalised.
(v) Ascertain that the legal life of the trademarks and copyrights has not expired.
(vi) Ensure that amount paid for both the intangible assets is properly amortised
having regard to appropriate legal and commercial considerations, as per the
principles enunciated under AS 26 on Intangible Assets.
(b) Investment Income in the case of Charitable Institution:
(i) Vouching the amounts received with the dividend and interest counterfoils.
(ii) Checking the calculations of interest received on securities bearing fixed rates
of interest.

(iii) Checking that the appropriate dividend has been received where any investment
has been sold ex-dividend or purchased cum-dividend.
(iv) Comparing the amounts of dividend received with schedule of investments
making special enquiries into any investments held for which no dividend has
been received.
(c) Contingent liabilities:
(i) Inspect the minute books of the company to ascertain all contingent liabilities
known to the company.
(ii) Examine the contracts entered into by the company and the likelihood of
contingent liabilities emanating therefrom.
(iii) Scrutinise the lawyer’s bills to track unreported contingent liabilities.
(iv) Examine bank letters in respect of bills discounted and not matured.
(v) Examine bank letters to ascertain guarantees on behalf of other companies or
individuals.
(vi) Discuss with various functional officers of the company about the possibility of
contingent liability existing in their respective field.
(vii) Obtain a certificate from the management that all known contingent liabilities
have been included in the accounts and they have been properly disclosed.
(viii) Ensure that proper disclosure has been made as per Schedule III to the
Companies Act, 2013 and AS 29, “Provisions, Contingent Liabilities and
Contingent Assets”.
(d) Leasehold Rights:
(i) Inspect the lease or assignment thereof to ascertain the amount of premium, if
any, for securing the lease, and its terms and conditions; and that the lease has
been duly registered. A lease exceeding one year is not valid unless it has been
granted by a registered instrument.
(ii) Ascertain that all the conditions, the failure to comply with which might result in
the forfeiture or cancellation of the lease, e.g., payment of ground rent on the
due dates, insurance of property, its maintenance in a satisfactory state of
repairs, etc. prescribed by the lease, are being duly complied with.
(iii) Examine the counterpart of the tenants’ agreements, if part of the leasehold
property has been sublet.
(iv) Make certain that due provisions for any claim that might arise under the
dilapidation clause on the expiry of the lease has been made, and, if no such
provision has been made, draw the client’s attention to the matter.

(v) Ensure that the outlay as well as any legal expenses incurred to acquir e the
leases which are shown as an asset in the Balance Sheet is being written off at
a rate which could completely wipe off the asset over the unexpired term of the
lease.
20. Direct confirmation procedure
⚫ A significant and important audit activity is to contact banks/ financial institutions directly
and ask them to confirm the amounts held in current accounts, deposit accounts, EEFC
account, cash credit accounts, restrictive use accounts like dividend, escrow accounts as
of the end of the reporting period under audit. This should necessarily be done for all
account balances as at the period-end.
⚫ The Company should be asked to investigate and reconcile the discrepancies, if any,
including seeking written explanations/ clarifications from the banks/ financial institutions
on any unresolved queries.
⚫ The auditor should emphasize for confirmation of 100% of bank account balances. In
remote situations, where no reply is received, the auditor should perform additional testing
regarding the balances. This testing could include:
— Agreeing the balance to bank statement received by the Company or internet/ online
login to account in auditor’s personal presence;
— Sending the audit team member to the bank branch along with the entity’s personal
to obtain balance confirmation from the bank directly.
21. Rule 3 of CAAR, 2014 prescribes the following manner and procedure of selection and
appointment of auditors-
(1) In case of a company that is required to constitute an Audit Committee under section
177, the committee, and, in cases where such a committee is not required to be
constituted, the Board, shall take into consideration the qualifications and experience
of the individual or the firm proposed to be considered for appointment as auditor
and whether such qualifications and experience are commensurate with the size and
It may be noted that while considering the appointment, the Audit Committee or the
Board, as the case may be, shall have regard to any order or pending proceeding
relating to professional matters of conduct against the proposed auditor before the
Institute of Chartered Accountants of India or any competent authority or any Court.
(2) The Audit Committee or the Board, as the case may be, may call for such other
information from the proposed auditor as it may deem fit.
(3) Subject to the provisions of sub-rule (1), where a company is required to constitute
the Audit Committee, the committee shall recommend the name of an individual or a
firm as auditor to the Board for consideration and in other cases, the Board shall

consider and recommend an individual or a firm as auditor to the members in the

annual general meeting for appointment.
(4) If the Board agrees with the recommendation of the Audit Committee, it shall further
recommend the appointment of an individual or a firm as auditor to the members in
(5) If the Board disagrees with the recommendation of the Audit Committee, it shall refer
back the recommendation to the committee for reconsideration citing reasons for such
disagreement.
(6) If the Audit Committee, after considering the reasons given by the Board, decides not
to reconsider its original recommendation, the Board shall record reasons for its
disagreement with the committee and send its own recommendation for consideration
of the members in the annual general meeting; and if the Board agrees with the
recommendations of the Audit Committee, it shall place the matter for consideration
by members in the annual general meeting.
(7) The auditor appointed in the annual general meeting shall hold office from the
conclusion of that meeting till the conclusion of the sixth annual general meeting, with
the meeting wherein such appointment has been made being counted as the first
meeting.
22. As per Section 139(8), any casual vacancy in the office of an auditor shall in the case of
a company other than a company whose accounts are subject to audit by an auditor
appointed by the Comptroller and Auditor-General of India, be filled by the Board of
Directors within 30 days.
If such casual vacancy is as a result of the resignation of an auditor, such appointment
shall also be approved by the company at a general meeting convened within three months
of the recommendation of the Board and he shall hold the office till the conclusion of the
next annual general meeting.
Further, as per section 140(2) the auditor who has resigned from the company shall file
within a period of 30 days from the date of resignation, a statement in the prescribed Form
with the company and the Registrar. In the instant case, R resigned after three mon ths of
his appointment as statutory auditor as he wanted to pursue his career in banking sector.
Therefore, the board of director has appointed Mr. L as the statutory auditor with in 30 days
is in order subject to such appointment shall also be approved by the company at a general
meeting convened within three months of the recommendation of the Board. Further, it is
also the duty of the auditor to file, within a period of 30 days from the date of resignation,
a statement in the prescribed Form with the company and the Registrar in compliance with
section 140(2) of the Companies Act, 2013.

23. As per section 141(3)(d)(i), a person shall not be eligible for appointment as an auditor of
a company, who, or his relative or partner is holding any security of or interest in the
company or its subsidiary, or of its holding or associate company or a subsidiary of such
holding company. However, as per proviso to this section, the relative of the person may
hold the securities or interest in the company of face value not exceeding of ` 1,00,000.
In the instant case, M/s ABC & Co. is an audit firm having partners CA. A, CA. B and CA.
C. Mr. D is a relative of CA. A and he is holding shares in XYZ Ltd. of face value of
` 2,50,000 (25,000 shares x rupees 10 per share). Market value of ` 90,000 would not be
relevant.
Therefore, M/s ABC & Co. is disqualified for appointment as an auditors of XYZ Ltd. as
the relative of CA. A (i.e. partner of M/s ABC & Co.) is holding the securities in XYZ Ltd.
which is exceeding the limit mentioned in proviso to section 141(3)(d)(i) of the Companies
Act, 2013.
24. Emphasis of Matter paragraph: A paragraph included in the auditor’s report that refers
to a matter appropriately presented or disclosed in the financial statements that, in the
auditor’s judgment, is of such importance that it is fundamental to users’ understanding of
the financial statements.
When the auditor includes an Emphasis of Matter paragraph in the auditor’s report,
the auditor shall:
(i) Include the paragraph within a separate section of the auditor’s report with an
appropriate heading that includes the term “Emphasis of Matter”;
(ii) Include in the paragraph a clear reference to the matter being emphasized and to
where relevant disclosures that fully describe the matter can be found in the financial
statements. The paragraph shall refer only to information presented or disc losed in
the financial statements; and
(iii) Indicate that the auditor’s opinion is not modified in respect of the matter emphasized.
25. Basis for Opinion: The auditor’s report shall include a section, directly following the
Opinion section, with the heading “Basis for Opinion”, that:
(a) States that the audit was conducted in accordance with Standards on Auditing;
(b) Refers to the section of the auditor’s report that describes the auditor’s responsibilities
under the SAs;
(c) Includes a statement that the auditor is independent of the entity in accordance with
the relevant ethical requirements relating to the audit and has fulfilled the auditor’s
other ethical responsibilities in accordance with these requirements.
(d) States whether the auditor believes that the audit evidence the auditor has obtained
is sufficient and appropriate to provide a basis for the auditor’s opinion.

26. A. Primary security refers to the security offered by the borrower for bank finance or
the one against which credit has been extended by the bank. This security is the
principal security for an advance.
B. Collateral security is an additional security. Security can be in any form i.e. tangible or
intangible asset, movable or immovable asset.
Examples of most common types of securities accepted by banks are the following:
• Personal Security of Guarantor
• Goods/Stocks/Debtors/Trade Receivables
• Gold Ornaments and Bullion
• Immovable Property
• Plantations (For Agricultural Advances)
• Third Party Guarantees
• Banker’s General Lien
• Life Insurance Policies
• Stock Exchange Securities and Other Instruments
27. Depending on the nature of the item concerned, creation of security may take the form of a
mortgage, pledge, hypothecation, assignment, set-off or lien.
(i) Mortgage: Mortgage are of several kinds but the most important are the Registered
Mortgage and the Equitable Mortgage.
• Registered Mortgage can be affected by a registered instrument called the
‘Mortgage Deed’ signed by the mortgagor. It registers the property to the
mortgagee as a security.
• Equitable mortgage, on the other hand, is effected by a mere delivery of title
deeds or other documents of title with intent to create security thereof.
(ii) Pledge: A pledge thus involves bailment or delivery of goods by the borrower to the
lending bank with the intention of creating a charge thereon as security for the
advance. The legal ownership of the goods remains with the pledger while the lending
banker gets certain defined interests in the goods. The pledge of goods constitutes a
specific (or fixed) charge.
(iii) Hypothecation: The hypothecation is the creation of an equitable charge (i.e., a
charge created not by an express enactment but by equity and reason), which is
created in favour of the lending bank by execution of hypothecation agreement in
respect of the moveable securities belonging to the borrower.
Neither ownership nor possession is transferred to the bank. However, the borrower
holds the physical possession of the goods as an agent/trustee of the bank.

The borrower periodically submits statements regarding quantity and value of

hypothecated assets (stocks, debtors, etc.) to the lending banker on the basis of which
the drawing power of the borrower is fixed.
(iv) Assignment: Assignment represents a transfer of an existing or future debt, right or
property belonging to a person in favour of another person. Only actionable claims
(i.e., claim to any debt other than a debt secured by a mortgage of immovable property
or by hypothecation or pledge of moveable property) such as book debts and life
insurance policies are accepted by banks as security by way of assignment.
An assignment gives the assignee absolute right over the moneys/debts assigned to
him.
(v) Set-off Set-off is a statutory right of a creditor to adjust, wholly or partly, the debit
balance in the debtor’s account against any credit balance lying in another account
of the debtor. The right of set-off enables a bank to combine two accounts (a deposit
account and a loan account) of the same person provided both the accounts are in the
same name and same right (i.e., the capacity of the account holder in both the
accounts should be the same).
For the purpose of set-off, all the branches of a bank are treated as one single entity.
The right of set-off can be exercised in respect of time-barred debts also.
(vi) Lien: Lien is creation of a legal charge with consent of the owner, which gives lender
a legal right to seize and dispose / liquidate the asset under lien.
28. (a) Audit against Rules & Orders - Audit against rules and orders aims to ensure that the
expenditure conforms to the relevant provisions of the Constitution and of the laws and
rules made thereunder. It also seeks to satisfy that the expenditure is in accordance with
the financial rules, regulations and orders issued by a competent authority. These
rules, regulations and orders against which regularity audit is conducted mainly fall
under the following categories:
(i) Rules and orders regulating the powers to incur and sanction expenditure from
the Consolidated Fund of India or of a State (and the Contingency Fund of India
or of a State);
(ii) Rules and orders dealing with the mode of presentation of claims against
government, withdrawing moneys from the Consolidated Fund, Contingency Fund
and Public Accounts of the Government of the India and of the States, and in
general the financial rules prescribing the detailed procedure to be followed by
government servants in dealing with government transactions; and
(iii) Rules and orders regulating the conditions of service, pay and allowances, and
pensions of government servants.
It is the function of the executive government to frame rules, regulations and orders,
which are to be observed by its subordinate authorities. The job of audit is to see that

these rules, regulations and orders are applied properly by the subordinate
authorities. It is, however, not the function of audit to prescribe what such rules,
regulations and orders shall be. But, it is the function of audit to carry out examination
of the various rules, regulations and orders issued by the executive authorities to see
that:
(a) they are not inconsistent with any provisions of the Constitution or any laws
made thereunder;
(b) they are consistent with the essential requirements of audit and accounts as
determined by the C&AG;
(c) they do not come in conflict with the orders of, or rules made by, any higher
authority; and
(d) in case they have not been separately approved by competent authority, the
issuing authority possesses the necessary rule-making power.
Audit of expenditure against regularity is of a quasi-judicial type of work performed by
the audit authorities. It involves interpretation of the Constitution, statutes , rules,
regulations and orders. The final power of interpretation of these, however, does not
vest with the C&AG.
(b) Audit of sanctions - The auditor has to ensure that each item of expenditure is
covered by a sanction, either general or special, of the competent authority. The audit
of sanctions is directed both in respect of ensuring that the expenditure is properly
covered by a sanction, and also to satisfy that the authority sanctioning it is competent
for the purpose by virtue of the powers vested in it by the provisions of the Constitution
and of the law, rules or orders made thereunder, or by the rules of delegation of
financial powers made by an authority competent to do so.

Chapter 9-Audit of Items of Financial Statements
In section 53 of the principal Act, for subsection (3), the following sub-section shall be
substituted, namely:— "(3) Where any company fails to comply with the provisions of this
section, such company and every officer who is in default shall be liable to a penalty which may
extend to an amount equal to the amount raised through the issue of shares at a discount or
five lakh rupees, whichever is less, and the company shall also be liable to refund all monies
received with interest at the rate of twelve per cent. per annum from the date of is sue of such
shares to the persons to whom such shares have been issued."
Penalty has been linked with amount raised through the issue of shares at a discount or a
penalty of ` 5 lakhs whichever is less. Further, in case of default, the company is required to
refund the amount alongwith 12% interest per annum.
(Reference to page no. is 9.8 and 9.9 of the study module 2)
PART – II A: Multiple Choice Questions based on Integrated Case Scenarios

M/s NSG & Associates have been appointed as auditors of Viaan Ltd. for the financial year
2019-20. The processes, operations, accounting and decisions are carried out by using
computers in Viaan Ltd. The auditors understand that there are several aspects that they should
consider to determine the level of automation and complexity in the business environment of
Viaan Ltd. While planning the audit work, the engagement partners discussed with the audit
staff about the various types of controls in the automated environment.
The different types of audit tests that can be used in audit of an automated business environment
were also discussed within the engagement team. The responsibility regarding the Internal
Financial Controls was also discussed in detail. Further the tools and techniques that can be
used to deal with the enormous data and information of Viaan Ltd. were briefed to the audit staff
by the engagement partners.
1. ………. are the manual controls that make use of some form of data or information or report
produced from the IT systems and applications.
(a) Application Controls

2 INTERMEDIATE (NEW) EXAMINATION: MAY, 2020
(b) IT dependent Controls

(c) Automated Controls
(d) General IT Controls
2. Statement 1: Application controls include both manual and automated controls that operate
at a business process level.
Statement 2: General IT Controls apply to mainframe, miniframe as well as end user
environment.
(a) Only Statement 1 is correct
(b) Only Statement 2 is correct
(c) Both Statements 1 & 2 are correct
(d) Both Statements 1 & 2 are incorrect
3. …………… are also known as pervasive or indirect controls :-
(a) General IT Controls
(b) Application Controls
(c) IT dependent Controls
(d) None of the above
4. Which of the following are not the types of audit tests that can be used in the audit in an
automated environment?
(a) Observation
(b) Inspection
(c) Re performance
5. …………… is the combination of processes, tools and techniques that are used to tap vast
amounts of electronic data to obtain meaningful information:-
(a) Computer Assisted Audit Techniques
(b) Automated Controls
(c) Data Analytics
M/s JK & Associates have been appointed as auditors of Venus Ltd. for the financial year
2019-20. The team consist of Mr. J & Mr. K both Chartered Accountants as also the engagement
partners and the audit staff consisting of 2 article assistants. While st arting the audit work of

Venus Ltd, the engagement partners briefed the audit staff about the audit work, areas to be
covered and the various auditing concepts and their application in the audit of Venus Ltd along
with applicable Standard on Auditing.
Various topics like audit planning, overall audit strategy, audit programme were discussed in
detail. The team was told about the purpose and implication of various statements and guidance
notes issued by the Institute of Chartered Accountants of India (ICAI) from time to time. Mr. K
also briefed the team about the concept of materiality to be applied while planning and
performing audit. The team was also explained in detail about the area where benchmark
materiality can be applied in case of Venus Ltd.
1. .………. sets the scope, timing & direction of the audit and guides the development of the
more detailed plan.
(a) Audit Programme
(b) Overall Audit Strategy
(c) Completion Memorandum
(d) Audit Plan
2. Statement 1: The establishment of the overall audit strategy and the detailed audit plan
are not necessarily discrete or sequential process but are closely inter -related.
Statement 2: The auditor shall establish an overall audit strategy that guides the
development of audit plan.
(c) Both Statements 1 & 2 are correct
(d) Both Statements 1 & 2 are incorrect
3. …………… means the amount set by the auditor at less than materiality for the financial
statements as a whole to reduce to an appropriately low level the probability that the
aggregate of uncorrected and undetected misstatement exceeds materiality for the
financial statements as a whole :-
(a) Benchmark Materiality
(b) Materiality in Planning
(c) Performance Materiality
(d) Materiality.

4. Which of the following is not an example of benchmark that can be used in determining the
materiality in the case of financial statements:-
(a) Total Revenue
(b) Profit before tax
(c) Net Asset Value
5. (i) Guidance notes issued by ICAI provide guidance to members on matters which may
arise in the course of their professional work.
(ii) Statements are issued by ICAI with a view to secure compliance by members on some
matters.
(iii) Guidance notes are recommendatory in nature.
(iv) Statements are mandatory in nature.
(a) All the above statements are correct.
(b) Statements 1 & 2 are correct
(c) Statements 1, 2 & 3 are correct
(d) Statements 1,2 & 4 are correct
MCQ’s not based on Case Scenario
1. Statement 1: Audit procedures consist of Risk Assessments Procedures and other
procedures.
Statement 2: Substantive procedures consist of test of details and analytical procedures.
2. With respect to the forms specified by companies (Cost Records & Audit) Rule 2014, which
of the following is incorrect combination:
(a) Form CRA 1- Maintenance of cost records by the Company.
(b) Form CRA 2- Intimation of appointment of another cost auditor to Central
Government.
(c) Form CRA 3- Submission of Cost Audit Report to the Board of Directors of the
company.
(d) Form CRA 4- Submission of Cost Audit Report by the company to the Registrar.

3. Statement I As per the Standard on Auditing (SA) 520 “Analytical Procedures”, the term
“analytical procedures” means evaluations of financial information through analysis of
plausible relationships among financial data.
Statement II Analytical procedures also encompass such investigation as is necessary of
identified fluctuations or relationships that are inconsistent with other relevant information
or that differ from expected values by a significant amount.
(a) Only Statement I is correct
(b) Only Statement II is correct
(c) Both statements are correct
(d) Both Statements are incorrect
4. Which of the following is not an example of Analytical Procedures having consideration of
comparisons of the entity’s financial information:
(a) Comparable information for prior periods.
(b) Anticipated results of the entity, such as budgets or forecasts, or expectations of the
auditor, such as an estimation of depreciation.
(c) Similar industry information, such as a comparison of the entity’s ratio of sales to
accounts receivable with industry averages or with other entities of comparable size
in the same industry.
(d) Among elements of financial information that would be expected to conform to a
predictable pattern based on the entity’s experience, such as gross margin
percentages.
5. Statement I : A firm whereof majority of partners practising in India are qualified for
appointment may be appointed by its firm name to be auditor of a company.
Statement II : Where a firm including a limited liability partnership is appointed as an
auditor of a company, all the partners shall be authorised to act and sign on behalf of the
firm.
(a) Only Statement I is correct
(b) Only Statement II is correct
(c) Both statements are correct
(d) Both Statements are incorrect
(i) all public companies, having in aggregate, outstanding loans or borrowings or
debentures or deposits exceeding hundred crore rupees or more shall constitute an
Audit Committee.

(ii) According to Section 140(1), the auditor appointed under section 139 may be
removed from his office before the expiry of his term only by a general resolution of
the company.
(iii) As per sub-section (5) of the section 140, the Tribunal cannot direct the company to
change its auditors.
(iv) SA 210 does not require the auditor to agree management’s responsibilities in an
engagement letter or other suitable form of written agreement.
(v) Government audit does not serve as a mechanism or process for public accounting
of government funds.
(vi) An account should be treated as ‘out of order’ if the outstanding balance remains
continuously in excess of the sanctioned limit/drawing power. In cases where the
outstanding balance in the principal operating account is less than the sanctioned
limit/drawing power, but there are no credits continuously for 180 days as on the date
of Balance Sheet or credits are not enough to cover the interest debited during the
same period, these accounts should be treated as ‘out of order’.
(vii) An Audit report is an opinion drawn on the entity’s financial statements to make sure
that the records are true and correct representation of the transactions they claim to
represent.
(viii) In the planning stage, analytical procedures would not in any way assist the auditor.
(ix) Statistical sampling has narrower application where a population to be tested
consists of a large number of similar items.
(x) Risk assessment procedures are not performed to obtain an understanding of the
entity and its environment.
Chapter 1- Nature, Objective and Scope of Audit
2. (a) The person conducting audit should take care to ensure that financial statements
would not mislead anybody. Explain stating clearly the meaning of Auditing.
(b) Explain the objectives of an Audit as per SA 200.
evidence. Explain with examples.
misstatements are particularly significant. Explain such assertions or subject matters.
Chapter 2- Audit Strategy, Audit Planning and Audit Programme
4. (a) Plans should be further developed and revised as necessary during the course of the
audit. Explain.
(b) Overall audit strategy sets the scope, timing and direction of the audit, and guides the
development of the more detailed audit plan. The process of establishing the overall

audit strategy assists the auditor to determine such matters as for example - the
resources to deploy for specific audit areas, such as the use of appropriately
experienced team members for high risk areas or the involvement of experts on
complex matters. Explain the other three such matters.
5. (a) Knowledge of the Client’s business is one of the important principles in developing
an overall audit plan. In fact without adequate knowledge of client’s business, a
proper audit is not possible. As per SA-315, “Identifying and Assessing the Risk of
Material Misstatement through Understanding the Entity and Its Environment”, the
auditor shall obtain an understanding of the relevant industry, regulatory and other
external factors including the applicable financial reporting framework. Substantiate
with the help of examples.
(b) Evidence is the very basis for formulation of opinion and an audit programme is
designed to provide for that by prescribing procedures and techniques.
Analyse and explain with the help of example of evidence in respect of Sales.
Chapter 3- Audit Documentation and Audit Evidence
6. (a) Audit evidence is all the information used by the auditor in arriving at the conclusions
on which the audit opinion is based. Written representations are necessary
information that the auditor requires in connection with the audit of the entity’s
financial statements. Accordingly, similar to responses to inquiries, written
representations are audit evidence. Explain stating clearly objectives of the auditor
regarding written representation.
(b) The auditor has no obligation to perform any audit procedures regarding the financial
statements after the date of the auditor’s report. However, when, after the date of the
auditor’s report but before the date the financial statements are issued, a f act
becomes known to the auditor that, had it been known to the auditor at the date of
the auditor’s report, may have caused the auditor to amend the auditor’s report.
Explain the auditor’s obligation in the above situation.
7. (a) The nature of related party relationships and transactions may, in some
circumstances, give rise to higher risks of material misstatement of the financial
statements than transactions with unrelated parties. Explain with the help of at least
three examples.
(b) When using external confirmation procedures, the auditor shall maintain control over
external confirmation requests including sending the requests, including follow -up
requests when applicable, to the confirming party. Explain the other points as to when
using external confirmation procedures, the auditor would be required to maintain
control over external confirmation requests.
8. (a) Define the following :
(i) Positive confirmation request

(ii) Negative confirmation request

(iii) Non-response
(iv) Exception
(b) Explain clearly the examples of matters relevant in planning attendance at physical
inventory counting.
Chapter 4- Risk Assessment and Internal Control
9. (a) When auditor identifies deficiencies and report on internal controls, he determines the
significant financial statement assertions that are affected by the ineffective controls
in order to evaluate the effect on control risk assessments and strategy for the audit
of the financial statements. Explain
(b) Obtaining an understanding of the entity and its environment, including the entity’s
analysing information throughout the audit. Analyse and explain giving examples.
10. (a) Internal control over safeguarding of assets against unauthorised acquisition, use, or
disposition may include controls relating to both financial reporting and operations
objectives. Explain stating clearly the objectives of Internal Control.
(b) It has been suggested that actual operation of the internal control shou ld be tested
by the application of procedural tests and examination in depth. Explain with the help
of example in respect of the procedure for sales.
Chapter 5- Fraud and Responsibilities of the Auditor in this Regard.
11. Auditor of A Ltd while conducting audit in the course of the performance of his duties as
auditor, believes with reasons that “an offence of fraud involving such amount or amounts
as may be prescribed, is being or has been committed in the company by its officers or
employees, the auditor shall report the matter to the Central Government within such time
and in such manner as may be prescribed”. Analyse and also explain the manner of
reporting the matter to the Central Government.
12. Discrepancies in the accounting records, including transactions that are not recorded in a
complete or timely manner or are improperly recorded as to amount, accounting period,
classification, or entity policy is one of the example of circumstances that indicate the
possibility of fraud. Explain at least four other such examples relating to discrepancies in
the accounting records.
Chapter 6- Audit in an Automated Environment
using spreadsheets and specialised audit tools viz., IDEA and ACL to perform check
completeness of data and population that is used in either test of controls or substantive
audit tests. Explain in detail stating all the relevant points.
14. Explain some of the commonly used methods for testing in an automated environment.


of the scale of misstatement but this projection may not be sufficient to determine an
amount to be recorded. Explain
16. Explain the sampling method which involves selection of a block(s) of contiguous items
from within the population. Also give example.
17. Explain the commonly used technique in the comparison of current data with the prior
period balance or with a trend in two or more prior period balances.
combination with tests of details, as substantive procedures in accordance with
SA 330, the auditor shall determine the suitability of particular substantive analytical
procedures for given assertions, taking account of the assessed risks of material
misstatement and tests of details, if any, for these assertions. Explain the other relevant
points in this context.
19. Companies prepare their financial statements in accordance with the framework of
generally accepted accounting principles (Indian GAAP), also commonly referred to as
accounting standards (AS). In preparing financial statements, Company’s management
makes implicit or explicit claims (i.e. assertions) regarding assets, liabilities, equity,
income, expenses and disclosures in accordance with the applicable accounting
standards. Explain with example stating the relevant assertions involved in this regard.
Also explain financial statement audit.
20. What does the Valuation assertion mean in respect of Assets, liabilities and equity
balances? Explain with the help of example in respect of Inventory.
21. ABC Ltd is a company incorporated in India. It has branches within and outside India.
Explain who can be appointed as an auditor of these branches within and outside India.
Also explain to whom branch auditor is required to report.
22. Before the commencement of the audit, the joint auditors should discuss and develop a
joint audit plan. In developing the joint audit plan, the joint auditors should identify
division of audit areas and common audit areas. Explain stating the other relevant
considerations in this regard.
23. The head accountant of a company entered fake invoices of credit purchases in the books
of account aggregate of ` 50 lakh and cleared all the payments to such bogus creditor.
How will you deal as an auditor ?


become aware of possible bias in management’s judgments. The auditor may conclude
statements to be materially misstated. Explain and analyse the indicators of lack of
neutrality with examples, wherever required.
25. The first section of the auditor’s report shall include the auditor’s opinion, and shall have
the heading “Opinion.” The Opinion section of the auditor’s report shall also Identify the
entity whose financial statements have been audited. Apart from the above, explain the
other relevant points to be included in opinion section.
Chapter 12- Bank Audit
assessing the overall reasonableness of the amount of interest expense. Analyse and
explain stating the audit approach and procedure in regard to interest expense.
27. In view of the significant uncertainty regarding ultimate collection of income arising in
respect of non-performing assets, the guidelines require that banks should not recognize
income on non-performing assets until it is actually realised. When a credit facility is
classified as non-performing for the first time, interest accrued and credited to the income
account in the corresponding previous year which has not been realized should be
reversed or provided for. This will apply to Government guaranteed accounts also. Analyse
and Explain.
28. (a) As per Multi-state Co-operative Societies Act, 2002, the auditor shall make a report
to the members of the Multi-State co-operative society on the accounts examined by
him and on every balance-sheet and profit and loss account and on every other
document required to be part of or annexed to the balance-sheet or profit and loss
account. Explain
(b) Explain the powers and duties of auditors under the Multi-State Co-operative
Societies Act, 2002.
SUGGESTED ANSWERS / HINTS

1. (b)
2. (c)
3. (a)
4. (d)

5. (c)
1. (b)
2. (c)
3. (c)
4. (d)
5. (a)
General MCQ’s
1 (c)
2 (d)
3 (b)
4 (d)
5 (a)
DESCRIPTIVE ANSWERS
1. (i) Incorrect: all public companies, having in aggregate, outstanding loans or borrowings
or debentures or deposits exceeding fifty crore rupees or more shall constitute an
Audit Committee.
(ii) Incorrect: According to Section 140(1), the auditor appointed under section 139 may
be removed from his office before the expiry of his term only by a special resolution
of the company, after obtaining the previous approval of the Central Government in
that behalf as per Rule 7 of CAAR, 2014.
(iii) Incorrect: As per sub-section (5) of the section 140, the Tribunal either suo motu or
on an application made to it by the Central Government or by any person concerned,
if it is satisfied that the auditor of a company has, whether directly or indirectly, acted
in a fraudulent manner or abetted or colluded in any fraud by, or in relation to, the
its auditors.
(iv) Incorrect: SA 210 requires the auditor to agree management’s responsibilities in an
engagement letter or other suitable form of written agreement.
(v) Incorrect: Government audit serves as a mechanism or process for public accounting
of government funds. It also provides public accounting of the operational,
management, programme and policy aspects of public administration as well as
accountability of the officials administering them.
(vi) Incorrect: An account should be treated as ‘out of order’ if the outstanding balance
remains continuously in excess of the sanctioned limit/drawing power. In cases where

the outstanding balance in the principal operating account is less than the sanctioned
limit/drawing power, but there are no credits continuously for 90 days as on the date
of Balance Sheet or credits are not enough to cover the interest debited during the
same period, these accounts should be treated as ‘out of order’.
(vii) Incorrect: The purpose of an audit is to enhance the degree of confidence of intended
users of the financial statements. The aforesaid purpose is achieved by the
expression of an independent reporting by the auditor as to whether the financial
statements exhibit a true and fair view of the affairs of the entity.
Thus, an Audit report is an opinion drawn on the entity’s financial statements t o make
sure that the records are true and fair representation of the transactions they claim
to represent.
(viii) Incorrect: In the planning stage, analytical procedures assist the auditor in
understanding the client’s business and in identifying areas of potential risk by
indicating aspects of and developments in the entity’s business of which he was
previously unaware. This information will assist the auditor in determining the nature,
timing and extent of his other audit procedures. Analytical procedures in planning
the audit use both financial data and non-financial information, such as number of
employees, square feet of selling space, volume of goods produced and similar
information.
(ix) Incorrect: Statistical sampling has reasonably wide application where a population
to be tested consists of a large number of similar items and more in the case of
transactions involving compliance testing, trade receivables’ confirmation, payroll
checking, vouching of invoices and petty cash vouchers.
(x) Incorrect: Risk assessment procedures refer to the audit procedures performed to
obtain an understanding of the entity and its environment, including the entity’s
internal control, to identify and assess the risks of material misstatement, whether
due to fraud or error, at the financial statement and assertion levels.
2. (a) “An audit is independent examination of financial information of any entity, whether
profit oriented or not, and irrespective of its size or legal form, when such an
examination is conducted with a view to expressing an opinion thereon.”
Analysis of the Definition
1. Audit is Independent examination of Financial information.
2. of any entity – that entity may be profit oriented or not and irrespective of its size
or legal form. For example – Profit oriented – Audit of Listed company engaged
in business. On the other hand, Audit of NGO – not profit oriented.
3. The objective of the audit is to express an opinion on the financial statements.
The person conducting this task should take care to ensure that financial statements
would not mislead anybody. This he can do honestly by satisfying himself that:

(i) the accounts have been drawn up with reference to entries in the books of
account;
(ii) the entries in the books of account are adequately supported by sufficient and
appropriate evidence;
(iii) none of the entries in the books of account has been omitted in the process of
compilation and nothing which is not in the books of account has found place in
the statements;
(iv) the information conveyed by the statements is clear and unambiguous;
(v) the financial statement amounts are properly classified, described and disclosed
in conformity with accounting standards; and
(vi) the statement of accounts present a true and fair picture of the operational
results and of the assets and liabilities.
(b) As per SA-200 “Overall Objectives of the Independent Auditor”, in conducting an audit
of financial statements, the overall objectives of the auditor are:
(a) To obtain reasonable assurance about whether the financial statements as a
whole are free from material misstatement; and
auditor.
3. An audit is not an official investigation into alleged wrongdoing. Accordingly, the
(b) Other Matters that Affect the Limitations of an Audit: In the case of certain subject
matters, limitations on the auditor’s ability to detect material misstatements are
particularly significant. Such assertions or subject matters include:
- Fraud, particularly fraud involving senior management or collusion.

- The existence and completeness of related party relationships and transactions.

- The occurrence of non-compliance with laws and regulations.
- Future events or conditions that may cause an entity to cease to continue as a
going concern.
4. (a) Plans should be further developed and revised as necessary during the course
of the audit.
SA-300, “Planning an Audit of Financial Statements” further expounds this principle.
According to it, planning is not a discrete phase of an audit, but rather a continual
and iterative process that often begins shortly after (or in connection with) the
completion of the previous audit and continues until the completion of the current
audit engagement. The auditor shall establish an overall audit strategy that sets the
scope, timing and direction of the audit, and that guides the development of the audit
plan.
(b) Overall audit strategy sets the scope, timing and direction of the audit, and guides
the development of the more detailed audit plan.
The auditor shall establish an overall audit strategy that sets the scope, timing and
direction of the audit, and that guides the development of the audit plan.
The process of establishing the overall audit strategy assists the auditor to
determine, subject to the completion of the auditor’s risk assessment procedures,
such matters as:
1. The resources to deploy for specific audit areas, such as the use of appropriately
experienced team members for high risk areas or the involvement of experts on
complex matters;
2. The amount of resources to allocate to specific audit areas, such as the number
of team members assigned to observe the inventory count at material locations,
the extent of review of other auditors’ work in the case of group audits, or the
audit budget in hours to allocate to high risk areas;
3. When these resources are to be deployed, such as whether at an interim audit
stage or at key cut-off dates; and
4. How such resources are managed, directed and supervised, such as when team
briefing and debriefing meetings are expected to be held, how engagement
partner and manager reviews are expected to take place (for example, on-site
or off-site), and whether to complete engagement quality control reviews.
5. (a) Examples are :
 The competitive environment, including demand, capacity, product and price
competition as well as cyclical or seasonal activity.

 Supplier and customer relationships, such as types of suppliers and customers

(e.g., related parties, unified buying groups) and the related contracts with those
entities.
 Technological developments, such as those related to the entity’s products,
energy supply and cost.
 The effect of regulation on entity operations.
(b) Evidence is the very basis for formulation of opinion and an audit programme is
designed to provide for that by prescribing procedures and techniques. What is best
evidence for testing the accuracy of any assertion is a matter of expert knowledge
and experience. This is the primary task before the auditor when he draws up the
audit programme. Transactions are varied in nature and impact; procedures to be
prescribed depend on prior knowledge of what evidence is reasonably available in
respect of each transaction.
Example
Sales are evidenced by:
(i) invoices raised by the client;
(ii) price list;
(iii) forwarding notes to client;
(iv) inventory-issue records;
(v) sales managers’ advice to the inventory section;
(vi) acknowledgements of the receipt of goods by the customers; and
(vii) collection of money against sales by the client.
6. (a) Audit evidence is all the information used by the auditor in arriving at the conclusions
on which the audit opinion is based. Written representations are necessary
information that the auditor requires in connection with the audit of the entity’s
financial statements. Accordingly, similar to responses to inquiries, written
representations are audit evidence.
Written representations are requested from those responsible for the preparation and
presentation of the financial statements.
Although written representations provide necessary audit evidence, they do not
provide sufficient appropriate audit evidence on their own about any of the matters
with which they deal. Furthermore, the fact that management has provided reliable
written representations does not affect the nature or extent of other audit e vidence
that the auditor obtains about the fulfillment of management’s responsibilities, or
about specific assertions.

The objectives of the auditor regarding written representation

The objectives of the auditor are:
(a) To obtain written representations
To obtain written representations from management. Also that management
believes that it has fulfilled its responsibility for the preparation of the financial
statements and for the completeness of the information provided to the auditor;
(b) To support other evidence
To support other audit evidence relevant to the financial statements or specific
assertions in the financial statements by means of written representations; and
(c) To respond appropriately
To respond appropriately to written representations provided by management or
if management does not provide the written representations requested by the
auditor.
(b) The auditor has no obligation to perform any audit procedures regarding the financial
statements after the date of the auditor’s report. However, when, after the date of the
auditor’s report but before the date the financial statements are issued, a fact
becomes known to the auditor that, had it been known to the auditor at the date of
the auditor’s report, may have caused the auditor to amend the auditor’s report, the
auditor shall:
(a) Discuss the matter with management and, where appropriate, those charged
with governance.
(b) Determine whether the financial statements need amendment and, if so,
(c) Inquire how management intends to address the matter in the financial
statements.
7. (a) Many related party transactions are in the normal course of business. In such
circumstances, they may carry no higher risk of material misstatement of the financial
statements than similar transactions with unrelated parties. However, the nature of
related party relationships and transactions may, in some circumstances, give rise to
higher risks of material misstatement of the financial statements than transactions
with unrelated parties.
Example
 Related parties may operate through an extensive and complex range of
relationships and structures, with a corresponding increase in the complexity of
related party transactions.
 Information systems may be ineffective at identifying or summarising
transactions and outstanding balances between an entity and its related parties.

 Related party transactions may not be conducted under normal market terms
and conditions; for example, some related party transactions may be conducted
with no exchange of consideration.
(b) When using external confirmation procedures, the auditor shall maintain control over
external confirmation requests, including:
(a) Determining the information to be confirmed or requested;
(b) Selecting the appropriate confirming party;
(c) Designing the confirmation requests, including determining that requests are
properly addressed and contain return information for responses to be sent
directly to the auditor; and
(d) Sending the requests, including follow-up requests when applicable, to the
confirming party.
8. (a) Positive confirmation request – A request that the confirming party respond directly
to the auditor indicating whether the confirming party agrees or disagrees with the
information in the request, or providing the requested information.
Negative confirmation request – A request that the confirming party respond
directly to the auditor only if the confirming party disagrees with the information
provided in the request.
Non-response – A failure of the confirming party to respond, or fully respond, to a
positive confirmation request, or a confirmation request returned undelivered.
Exception – A response that indicates a difference between information requested
to be confirmed, or contained in the entity’s records, and information provided by the
confirming party.
(b) Matters relevant in planning attendance at physical inventory counting include,
for example:
(a) Nature of inventory.
(b) Stages of completion of work in progress.
(c) The risks of material misstatement related to inventory.
(d) The nature of the internal control related to inventory.
(e) Whether adequate procedures are expected to be established and proper
instructions issued for physical inventory counting.
(f) The timing of physical inventory counting.
(g) Whether the entity maintains a perpetual inventory system.
(h) The locations at which inventory is held, including the materiality of the inventory
and the risks of material misstatement at different locations, in deciding at which

locations attendance is appropriate

(i) Whether the assistance of an auditor’s expert is needed.
9. (a) Control risk assessment when control deficiencies are identified: When auditor
identifies deficiencies and report on internal controls, he determines the significant
financial statement assertions that are affected by the ineffective controls in order to
evaluate the effect on control risk assessments and strategy for the audit of the
When control deficiencies are identified and auditor identifies and tests more than
one control for each relevant assertion, he evaluates control risk considering all of
the controls he has tested. If auditor determines that they support a ‘rely on controls’
risk assessment, or if compensating controls are identified, tested and evaluated to
be effective, he may conclude that the ‘rely on controls’ is still appropriate. Otherwise
we change our control risk assessment to ‘not rely on controls.’
When a deficiency relates to an ineffective control that is the only control identified
for an assertion, he revises risk assessment to ‘not rely on controls’ for associated
assertions, as no other controls have been identified that mitigate the risk related to
the assertion. If the deficiency relates to one WCGW (what can go wrong) out of
several WCGW’s, he can ‘rely on controls’ but performs additional substantive
procedures to adequately address the risks related to the deficiency.
(b) Obtaining an understanding of the entity and its environment, including the entity’s
analysing information throughout the audit. The understanding establishes a frame of
reference within which the auditor plans the audit and exercises professional
judgment throughout the audit, for example, when:
 Assessing risks of material misstatement of the financial statements;
 Determining materiality in accordance with SA 320;
 Considering the appropriateness of the selection and application of accounting
policies;
 Identifying areas where special audit consideration may be necessary, for
example, related party transactions, the appropriateness of management’s use
of the going concern assumption, or considering the business purpose of
transactions;
 Developing expectations for use when performing analytical procedures;
 Evaluating the sufficiency and appropriateness of audit evidence obtained, such
as the appropriateness of assumptions and of management’s oral and written
representations.

10. (a) Objectives of Internal Control

Internal control over safeguarding of assets against unauthorised acquisition, use, or
disposition may include controls relating to both financial reporting and operations
objectives. The auditor’s consideration of such controls is generally limited to those
relevant to the reliability of financial reporting. For example, use of acces s controls,
such as passwords, that limit access to the data and programs that process cash
disbursements may be relevant to a financial statement audit. Conversely,
safeguarding controls relating to operations objectives, such as controls to prevent
the excessive use of materials in production, generally are not relevant to a financial
statement audit.
Objectives of Internal Control are :
(i) transactions are executed in accordance with managements general or specific
authorization;
(ii) all transactions are promptly recorded in the correct amount in the appropriate
accounts and in the accounting period in which executed so as to permit
preparation of financial information within a framework of recognized accounting
policies and practices and relevant statutory requirements, if any, and to
maintain accountability for assets;
(iii) assets are safeguarded from unauthorised access, use or disposition; and
(iv) the recorded assets are compared with the existing assets at reasonable
intervals and appropriate action is taken with regard to any differences.
(b) It has been suggested that actual operation of the internal control should be tested
by the application of procedural tests and examination in depth. Procedural tests
simply mean testing of the compliance with the procedures laid down by the
management in respect of initiation, authorisation, recording and documentation of
transaction at each stage through which it flows.
For example, the procedure for sales requires the following:
1. Before acceptance of any order the position of inventory of the relevant article
should be known to ascertain whether the order can be executed in time.
2. An advice under the authorisation of the sales manager should be sent to the
party placing the order, internal reference number, and the acceptance of the
order. This advice should be prepared on a standardised form and copy thereof
should be forwarded to inventory section to enable it to prepare for the execution
of the order in time.
3. The credit period allowed to the party should be the normal credit period. For
any special credit period a special authorisation of the sales manager would be
necessary.

4. The rate at which the order has been accepted and other terms about transport,
insurance, etc., should be clearly specified.
5. Before deciding upon the credit period, a reference should be made to the credit
section to know the creditworthiness of the party and particularly whether the
party has honoured its commitments in the past.
11. Reporting to the Central Government: As per sub-section (12) of section 143 of the
Companies Act, 2013, if an auditor of a company in the course of the performance of his
duties as auditor, has reason to believe that an offence of fraud involving such amount or
amounts as may be prescribed, is being or has been committed in the company by its
officers or employees, the auditor shall report the matter to the Central Government within
such time and in such manner as may be prescribed.
In this regard, Rule 13 of the Companies (Audit and Auditors) Rules, 2014 has been
prescribed. Sub-rule (1) of the said rule states that if an auditor of a company, in the course
of the performance of his duties as statutory auditor, has reason to believe that an offence
of fraud, which involves or is expected to involve individually an amount of ` 1 crore or
above, is being or has been committed against the company by its officers or employees,
the auditor shall report the matter to the Central Government.
The manner of reporting the matter to the Central Government is as follows:
(d) the report shall be sent to the Secretary, Ministry of Corporate Affairs in a sealed
cover by Registered Post with Acknowledgement Due or by Speed Post followed by
an e-mail in confirmation of the same;
(f) the report shall be in the form of a statement as specified in Form ADT -4.

12. Discrepancies in the accounting records, including:

• Transactions that are not recorded in a complete or timely manner or are improperly
recorded as to amount, accounting period, classification, or entity policy.
• Last-minute adjustments that significantly affect financial results.
• Evidence of employees’ access to systems and records inconsistent with that
necessary to perform their authorized duties.
using spreadsheets and specialised audit tools viz., IDEA and ACL to perform the
following:
 Check completeness of data and population that is used in either test of controls or
substantive audit tests.
 Selection of audit samples – random sampling, systematic sampling.
 Re-computation of balances – reconstruction of trial balance from transaction data.
 Reperformance of mathematical calculations – depreciation, bank interest
calculation.
 Analysis of journal entries as required by SA 240.
 Fraud investigation.
 Evaluating impact of control deficiencies.
14. When testing in an automated environment, some of the more common methods are as
follows:
 Obtain an understanding of how an automated transaction is processed by doing a
walkthrough of one end-to-end transaction using a combination of inquiry, observation
and inspection.
 Observe how a user processes transactions under different scenarios.
 Inspect the configuration defined in an application.
of the scale of misstatement but this projection may not be sufficient to determine an
amount to be recorded. When a misstatement has been established as an anomaly, it may
be excluded when projecting misstatements to the population. However, the effect of any
such misstatement, if uncorrected, still needs to be considered in addition to the projection
of the non-anomalous misstatements.

For tests of details, the auditor shall project misstatements found in the sample t o the
population whereas for tests of controls, no explicit projection of deviations is necessary
since the sample deviation rate is also the projected deviation rate for the population as a
whole.
16. Block Sampling: This method involves selection of a block(s) of contiguous items from
within the population. Block selection cannot ordinarily be used in audit sampling because
most populations are structured such that items in a sequence can be expected to have
similar characteristics to each other, but different characteristics from items elsewhere in
the population. Although in some circumstances it may be an appropriate audit procedure
to examine a block of items, it would rarely be an appropriate sample selection technique
when the auditor intends to draw valid inferences about the entire population based on the
sample.
Example
Take the first 200 sales invoices from the sales day book in the month of September;
alternatively take any four blocks of 50 sales invoices. Therefore, once the first item in the
block is selected, the rest of the block follows items to the completion.
17. Trend analysis – A commonly used technique is the comparison of current data with the
prior period balance or with a trend in two or more prior period balances. We evaluate
whether the current balance of an account moves in line with the trend established with
previous balances for that account, or based on an understanding of factors that may cause
the account to change.
combination with tests of details, as substantive procedures in accordance with
SA 330, the auditor shall:
(i) Determine the suitability of particular substantive analytical procedures for given
assertions, taking account of the assessed risks of material misstatement and tests
of details, if any, for these assertions;
(ii) Evaluate the reliability of data from which the auditor’s expectation of recorded
amounts or ratios is developed, taking account of source, comparability, and nature
and relevance of information available, and controls over preparation;
(iii) Develop an expectation of recorded amounts or ratios and evaluate whether the
expectation is sufficiently precise to identify a misstatement that, individually or when
aggregated with other misstatements, may cause the financial statements to be
materially misstated; and
(iv) Determine the amount of any difference of recorded amounts from expected values
that is acceptable without further investigation.

19. Companies prepare their financial statements in accordance with the framework of
generally accepted accounting principles (Indian GAAP), also commonly referred to as
accounting standards (AS).
A financial statement audit comprises the examination of an entity’s financial s tatements
and accompanying disclosures by an independent auditor. The result of this examination
is a report by the auditor, attesting to the truth and fairness of presentation of the financial
statements and related disclosures.
In preparing financial statements, Company’s management makes implicit or explicit claims
(i.e. assertions) regarding:
• completeness;
• cut-off;
• existence/ occurrence;
• valuation/ measurement;
• rights and obligations; and
• presentation and disclosure
of assets, liabilities, equity, income, expenses and disclosures in accordance with the
applicable accounting standards.
Example
If Company X’s balance sheet shows building with carrying amount of ` 50 lakh, the auditor
shall assume that the management has claimed/ asserted that:
• The building recognized in the balance sheet exists as at the period- end (existence
assertion);
• Company X owns and controls such building (Rights and obligations assertion);
• The building has been valued accurately in accordance with the measurement
principles (Valuation assertion);
• All buildings owned and controlled by Company X are included within the carrying
amount of ` 50 lakh (Completeness assertion).
20. Meaning of Valuation Assertion– Assets, liabilities, and equity interests are included in
the financial statements at appropriate amounts and any resulting valuation or allocation
adjustments are appropriately recorded.
Example of Inventory explaining the valuation assertion is given hereunder:
Inventory has been recognized at the lower of cost and net realizable value in accordance
with AS 2 - Inventories. Any costs that could not be reasonably allocated to the cost of
production (e.g. general and administrative costs) and any abnormal wastage have been
excluded from the cost of inventory. An acceptable valuation basis (eg. FIFO, Weighted

average etc.) has been used to value inventory as at the period-end.

21. Sub-section (8) of section 143 of the Companies Act, 2013, prescribes the duties and
powers of the company’s auditor with reference to the audit of the branch and the branch
auditor. Where a company has a branch office, the accounts of that office shall be audited
either by the auditor appointed for the company (herein referred to as the company's
auditor) under this Act or by any other person qualified for appointment as an auditor of
the company under this Act and appointed as such under section 139, or where the branch
office is situated in a country outside India, the accounts of the branch office shall be
audited either by the company's auditor or by an accountant or by any other person duly
qualified to act as an auditor of the accounts of the branch office in accordance with the
laws of that country and the duties and powers of the company' s auditor with reference to
the audit of the branch and the branch auditor, if any, shall be such as may be prescribed:
It may be noted that the branch auditor shall prepare a report on the accounts of the branch
examined by him and send it to the auditor of the company who shall deal with it in his
report in such manner as he considers necessary.
Further as per rule 12 of the Companies (Audit and Auditors) Rules, 2014, the branch
auditor shall submit his report to the company’s auditor and reporting of fraud by the auditor
shall also extend to such branch auditor to the extent it relates to the concerned branch.
22. Before the commencement of the audit, the joint auditors should discuss and
develop a joint audit plan. In developing the joint audit plan, the joint auditors should:
(c) consider and communicate among all joint auditors the factors that are significant
(e) consider the results of preliminary engagement activities, or similar engagements
performed earlier.
(f) ascertain the nature, timing and extent of resources necessary to accomplish the
engagement.
23. Here, the auditor of the company is required to report the fraudulent activity to the Board
or Audit Committee (as the case may be) within 2 days of his knowledge of fraud. Further,
the company is also required to disclose the same in Board’s Report. It may be noted that
the auditor need not to report the central government as the amou nt of fraud involved is
less than ` 1 crore, however, reporting under CARO, 2016 is required.
become aware of possible bias in management’s judgments. The auditor may conclude

statements to be materially misstated. Indicators of a lack of neutrality include the

following:
(i) The selective correction of misstatements brought to management’s attention during
the audit.
Example
 Correcting misstatements with the effect of increasing reported earnings, but not
correcting misstatements that have the effect of decreasing reported earnings.
 The combination of several deficiencies affecting the same significant account
or disclosure (or the same internal control component) could amount to a
significant deficiency (or material weakness if required to be communicated in
the jurisdiction). This evaluation requires judgment and involvement of audi t
executives.
(ii) Possible management bias in the making of accounting estimates.
25. The first section of the auditor’s report shall include the auditor’s opinion, and shall have
the heading “Opinion.”
The Opinion section of the auditor’s report shall also:
(a) Identify the entity whose financial statements have been audited;
(b) State that the financial statements have been audited;
(c) Identify the title of each statement comprising the financial statements;
(d) Refer to the notes, including the summary of significant accounting policies; and
(e) Specify the date of, or period covered by, each financial statement comprising the
assessing the overall reasonableness of the amount of interest expense by analysing ratios
of interest paid on different types of deposits and borrowings to the average quantum of
the respective liabilities during the year. In modern day banking, the entries for interest
expenses are automatically generated through a batch process in the CBS system.
• The auditor should obtain from the bank an analysis of various types of deposits
outstanding at the end of each quarter. From such information, the auditor may work
out a weighted average interest rate. The auditor may then compare this rate with the
actual average rate of interest paid on the relevant deposits as per the annual
accounts and enquire into the difference, if material.
• The auditor should also compare the average rate of interest paid on the relevant
deposits with the corresponding figures for the previous years and analyse any
material differences. The auditor should obtain general ledger break -up for the
interest expense incurred on deposits (savings and term deposits) and borrowing

each month/quarter. The auditor should analyse month on month (or quarter on
quarter) cost analysis and document the reasons for the variances as per the
benchmark stated. He should examine whether the interest expense considered in
the cost analysis agrees with the general ledger. The auditor should understand the
process of computation of the average balance and re-compute the same on sample
basis.
• The auditor should, on a test check basis, verify the calculation of interest and ensure
that:
(a) Interest has been provided on all deposits upto the date of the balance sheet;
(b) Interest rates are in accordance with the bank’s internal regulations, the RBI
directives and agreements with the respective deposit holder;
(c) Interest on savings accounts are in accordance with the rules framed by the
bank/RBI in this behalf.
(d) Interest on inter–branch balances has been provided at the rates prescribed by
the head office/RBI.
The auditor should ascertain whether there are any changes in interest rate on saving
accounts and term deposits during the period. The auditor should obtain the interest
rate card for various types of deposits and analyse the interest cost for the period
accordingly. The auditor should examine the completeness that interest has been
accrued on the entire borrowing portfolio and the same should agree with the general
ledgers. The auditor should re-compute the interest accrual i.e., by referring to the
parameters like frequency of payment of interest amount, rate of interest, period
elapsed till the date of balance sheet, etc from the term sheet, deal ticket,
agreements, etc and ensure that the recomputed amount is tallying with the amount
as per books of accounts without any significant difference.
27. Reversal of Income:
If any advance, including bills purchased and discounted, becomes NPA as at the close of
any year, the entire interest accrued and credited to income account in the past periods,
should be reversed or provided for if the same is not realised. This will apply to Government
guaranteed accounts also.
In respect of NPAs, fees, commission and similar income that have accrued should cease
to accrue in the current period and should be reversed or provided for with respect to past
periods, if uncollected.
Further, in case of banks which have wrongly recognised income in the past should reverse
the interest if it was recognised as income during the current year or make a provision for
an equivalent amount if it was recognized as income in the previous year(s).
Furthermore, the auditor should enquire if there are any large debits in the Interest Income
account that have not been explained. It should be enquired whether there are any

communications from borrowers pointing out differences in interest charge and whether
appropriate action has been taken in this regard.
28. (a) As per sub-section (3) & (4) of section 73 of Multi- state Co-operative Societies Act,
2002, the auditor shall make a report to the members of the Multi-State co-operative
society on the accounts examined by him and on every balance-sheet and profit and
loss account and on every other document required to be part of or annexed to the
balance-sheet or profit and loss account, which are laid before the Multi-State co-
operative society in general meeting during his tenure of office, and the report shall
state whether, in his opinion and to the best of his information and according to the
explanation given to him, the said account give the information required by this act in
the manner so required, and give a true and fair view:
(a) In the case of the balance-sheet, of the state of the Multi-State co-operative
society’s affairs as at the end of its financial year; and
(b) In the case of the profit and loss account, of the profit or loss for its financial
year. The auditor’s report shall also state:
(i) Whether he has obtained all the information and explanation which to the
best of his knowledge and belief were necessary for the purpose of his
audit.
(ii) Whether, in his opinion, proper books of account have been kept by the
Multi- State co-operative society so far as appears from his examination of
these books and proper returns adequate for the purpose of his audit have
been received from branches or offices of the Multi-State co-operative
society not visited by him.
(iii) Whether the report on the accounts of any branch office audited by a
person other than the Multi-State co-operative society’s auditor has been
forwarded to him and how he has dealt with the same in preparing the
auditor’s report.
(iv) Whether the Multi-State co-operative society’s balance sheet and profit and
loss account dealt with by the report are in agreement with the books of
account and return.
Where any of the matters referred to in sub-section (3) or (4) is answered in the
negative or with a qualification, the auditor’s report shall state the reason for the
answer.
(b) Section 73 of the Multi-State Co-operative Societies Act, 2002 discusses the powers
and duties of auditors. According to this, every auditor of a Multi-State co-operative
society shall have a right of access at all times to the books accounts and vouchers
of the Multi-State co-operative society, whether kept at the head office of the Multi-
State co-operative society or elsewhere, and shall be entitled to require from the
officers or other employees of the Multi- State co-operative society such information

and explanation as the auditor may think necessary for the performance of his duties
as an auditor.
As per section 73(2), the auditor shall make following inquiries:
(a) Whether loans and advances made by the Multi-State co-operative society on
the basis of security have been properly secured and whether the terms on
which they have been made are not prejudicial to the interests of the Multi -State
co-operative society or its members,
(b) Whether transactions of the Multi-State co-operative society which are
represented merely by book entries are not prejudicial to the interests of the
Multi-State co-operative society,
(c) Whether personal expenses have been charged to revenue account, and
(d) Where it is Stated in the books and papers of the Multi-State co-operative society
that any shares have been allotted for cash, whether cash has actually, been
received in respect of such allotment, and if no cash has actually been so
received, whether the position as stated in the account books and the balance
sheet as correct regular and not misleading.

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PAPER – 6: AUDITING AND ASSURANCE

PART – I : ACADEMIC UPDATE

© The Institute of Chartered Accountants of India

Chapter 10 – Company Audit

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

PART – II: QUESTIONS AND ANSWERS

PART – II A: Multiple Choice Questions based on Case Scenarios

© The Institute of Chartered Accountants of India

Based on above, answer the following questions: -

© The Institute of Chartered Accountants of India

(b) The view of Kartik is incorrect.

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

(c) Adequate segregation of duties.

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

Chapter 5 - Fraud and Responsibilities of the Auditor in this Regard.

© The Institute of Chartered Accountants of India

Chapter 9 - Audit of Items of Financial Statements

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

2.4 (b) Non-sampling risk

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

- The occurrence of non-compliance with laws and regulations.

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

Nature of Audit Documentation

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

10. The risks of material misstatement may exist at two levels:

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

• Architecture (desktop based, client-server, web application, cloud based)

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

(ii) Appointment of Subsequent Auditor of a Government Company: As per Section

© The Institute of Chartered Accountants of India

or invest in other persons or entities identified in any manner whatsoever by or

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

among them is mitigated. On this consideration, it is usually provided in and

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

Chapter 10 – COMPANY AUDIT

© The Institute of Chartered Accountants of India

PART – II: QUESTIONS AND ANSWERS

PART – II A: Multiple Choice Questions based on Case Scenarios

© The Institute of Chartered Accountants of India

(d) She is checking her compliance of ethical requirements.

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

© The Institute of Chartered Accountants of India

(c) Audit of sanctions

© The Institute of Chartered Accountants of India